APR vs. APY: What Is the Difference?

APR and APY look almost identical, and lenders and banks sometimes rely on the confusion. But they measure different things, and mixing them up can lead you to underestimate what a loan costs or overestimate what a savings account earns. Here is the plain-English difference.

What APR means

APR stands for annual percentage rate. It represents the yearly cost of borrowing money, and on loans it is meant to include not just the interest rate but certain fees as well, giving you a fuller picture of the true cost. Crucially, APR does not account for compounding within the year. You will see APR quoted on credit cards, mortgages, auto loans, and personal loans — anywhere you are the borrower.

What APY means

APY stands for annual percentage yield. It represents how much you actually earn on savings in a year, and unlike APR, it does include the effect of compounding. Because interest earns interest, the APY is always slightly higher than the equivalent simple rate. You will see APY quoted on savings accounts, certificates of deposit, and money market accounts — anywhere you are the saver.

Why compounding creates the gap

Suppose an account pays a 6% nominal annual rate. If interest is added just once a year, you earn exactly 6%. But if it compounds monthly, each month’s interest starts earning its own interest, and by year end you have earned about 6.17% — that is the APY. The more frequently interest compounds, the wider the gap between the stated rate and the APY. This is why comparing two savings accounts by their APY, not their nominal rate, gives you the true comparison.

A practical example

A credit card advertising a 24% APR that compounds daily effectively costs you closer to 27% per year once compounding is included — so as a borrower, the real cost is higher than the APR suggests. On the flip side, a savings account advertising a 4.5% APY already reflects compounding, so that is genuinely what you will earn. The rule of thumb: for borrowing, the compounding works against you; for saving, it works for you.

How to use this knowledge

• When borrowing, compare loans by APR — and remember that with frequent compounding, your effective cost can exceed the stated APR.
• When saving, compare accounts by APY, which already includes compounding, for a true apples-to-apples comparison.
• Watch compounding frequency: daily compounding earns (or costs) a bit more than monthly or annual.
• Do not compare a loan’s APR against a savings account’s APY directly — they are measured differently.
• Read the fine print; a low advertised rate can hide fees that a properly calculated APR would reveal.

The conversion formula

You can convert an APR to its effective annual rate yourself: APY = (1 + APR ÷ n)^n − 1, where n is the number of compounding periods per year. For monthly compounding n is 12; for daily compounding it is 365. The table shows how a 5% nominal rate grows with more frequent compounding, and what common credit card APRs really cost when interest compounds daily.

For savings, the differences between compounding schedules are small: going from monthly to daily adds about a hundredth of a percentage point on a 5% rate. For high-rate debt the gap is much larger, because compounding at a high rate snowballs faster. That is one more reason to prioritize paying off credit cards before chasing slightly better savings yields.

What the law requires lenders and banks to show

In the United States, the Truth in Lending Act requires lenders to disclose the APR on consumer loans and credit cards so borrowers can compare offers. The Truth in Savings Act requires banks and credit unions to disclose the APY on deposit accounts. On a mortgage, the Loan Estimate you receive within three business days of applying shows both the interest rate and the APR; a large gap between them signals significant fees or points built into the loan.

Where APR can mislead

• Mortgage APRs assume you keep the loan for its full term. If you sell or refinance early, upfront fees are spread over fewer years and your true cost is higher than the APR suggests.
• Adjustable-rate loans quote an APR based on current index values; the actual rate can rise later.
• Some fees, such as certain third-party charges, are excluded from APR calculations, so read the full fee list.
• A 0% promotional APR often reverts to a high standard rate. On some store cards, deferred-interest promotions charge all the back interest if the balance is not paid in full by the deadline.

A quick checklist

Borrowing? Compare APRs on offers with the same term, then ask about fees and whether the rate is fixed. Saving? Compare APYs, then check minimum balances, withdrawal limits, and whether the rate is promotional. When in doubt, plug the numbers into a compound interest calculator to see the actual dollars over the time you expect to hold the account or loan.

Worked example: what a 24% APR costs in real dollars

Percentages can feel abstract, so here is a concrete case. Suppose you carry a $5,000 credit card balance at a 24% APR, with interest calculated monthly, and you stop using the card. If you pay $150 a month, it takes about 56 months, nearly five years, to clear the balance, and you pay roughly $3,322 in interest along the way. Raise the payment to $250 a month and the balance is gone in about 26 months with roughly $1,449 in interest. The extra $100 a month saves close to $1,900 and more than two and a half years of payments.

Compare that with a high-yield savings account paying a 4.5% APY. The same $5,000 sitting in savings would earn only about $225 in a year. Carrying the card balance while holding the cash in savings means paying far more in interest than you earn, which is why paying down high-APR debt is usually the best guaranteed return available to most households.

The bottom line

APR is the cost of borrowing; APY is the reward for saving, and only APY reflects compounding. Match the right metric to the right side of the transaction and you will never be fooled by a rate that looks better — or worse — than it really is.