Comparing interest on savings and loans
Introduction
Financial services such as banks, Credit Unions and building societies use different terms for the interest you are either charged or earn on their financial products.
The four most common terms you will see are:
- Annual Percentage Rate (APR)
- Equivalent Annual Rate (EAR)
- Annual Equivalent Rate (AER)
- Compound Annual Return (CAR)
APR and EAR is used for the interest you are charged on money you borrow from a financial institution.
AER, CAR and EAR can be used for the interest you earn on money you save with a financial intitution.
APR and EAR
APR
The Annual Percentage Rate (APR) is the interest rate which when added to your loan shows you the real cost of borrowing money. APR is calculated each year on the declining principal of a loan. The declining principal is the amount you still owe, not the original amount you borrowed.
APR takes into account when interest is charged and any additional charges. This means, fees and charges will be added to the loan amount before the interest is calculated.
The higher the APR the more it will cost you to borrow money.
EAR
The Equivalent Annual Rate (EAR) is used to calculate interest on accounts that can either be in credit or overdrawn. (If you have money in your account, your account is in credit). EAR shows you the rate of interest charged or earned. For example, a current account with an overdraft facility can have 2 EAR rates – one for interest paid when the account is in credit and another for interest charged when the account is overdrawn. If only one EAR is quoted you should find out whether it applies to your credit balance or your overdraft. Always check with your bank to find out the interest rate charged on your overdraft facility.
EAR takes into account when the interest is charged or earned, and any additional charges. Additional charges could include quarterly fees, set-up charges, and so on.
EAR calculates the interest as if it is paid once a year, even if it is paid twice or three times per year. This means, comparing EAR rates allows you to compare an account where the interest is paid or charged monthly with one where the interest is paid or charged annually.
The higher the EAR, the more interest you will be charged or earn. It is similar to APR (Annual Percentage Rate) although APR only applies to lending products. EAR applies to deposits as well as overdrafts. It shows you the real cost of using an overdraft facility.
Comparing APR and EAR
What it is used for:
APR is the cost of taking out a loan, for example, a Credit Union loan. APR is not used to calculate interest on savings.
EAR can be used for an account that can be either overdrawn (loan) or in credit (savings). For example, EAR can be used for a current account with an overdraft facility.
How the interest is calculated:
EAR and APR take into account fees and charges. If you have a loan, fees and charges will be added to the loan amount before the interest is calculated.
APR it is calculated on either the declining principle of the loan at the time the interest is charged. EAR is also calculated on the amount you still owe at the time interest is charged.
AER and CAR
Annual Equivalent Rate (AER) and Compound Annual Return (CAR) both show you the real interest you will have gained on savings or interest based investments at the end of a year.
AER and CAR take into account how often interest is paid because when the interest is added to your savings your savings increase. As a result, the next time the interest on your savings is calculated this increases too. This called compound interest. Compound interest is when the previous amount of interest is added to your savings to find the next amount of interest due.
An example of compound interest:
If a financial institution quotes an interest rate of 4% per year compounded every 6 months. We call this 4% the 'Nominal Rate'. This means that the financial institution pays 2% compound interest every 6 months. The interest paid at the end of 6 months, actually earns interest for the second 6 months of the year. For this reason, 4% compounded every 6 months, is not the same as 4% compounded annually.
You invest €500 with your financial institution at a rate of 4% each year, compounded every 6 months.
| Time period | Interest | Accumulated value |
| After 6 months | €10 | €510 |
| After 12 months | €10.20 | €520.20 |
The €10 interest for the first 6 months is simply 2% of €500. This is then added to the initial investment to give a running total of €510. The interest for the second six months of the year €10.20 is 2% of €510. The effective annual interest rate is therefore 20.20 /500 x 100 = 4.04%.
Comparing EAR and AER/CAR
What it is used for:
AER and CAR show you the interest you have gained on savings and interest based investments, it cannot be used for loans or overdrafts. EAR is used for an account that can either be in credit or overdrawn, for example, a current account with an overdraft facility.
If a financial institution, for example a bank or credit union quote an AER or CAR rate for an account, there may also be terms and conditions attached to that account which can stop you from getting the full rate. For example, you may not get the full rate if you withdraw you savings before a certain date.
How the interest is calculated:
With EAR, AER and CAR, when your interest is calculated it is added to your savings, this will increase your savings and you will earn more interest the next time it is calculated. When interest is added to your savings in this way it is called compound interest.
AER and CAR do not take into account fees or charges. However, with EAR, if you have savings in an account, fees and charges will be subtracted from your total savings before your EAR interest is calculated.
Rules
APR
The law in Ireland states that any advertisement about the availability of credit must include the APR. It is the only interest rate that should appear in the advertisement and must be in a clear and prominent place. These requirements are set down in Section 21 of the Consumer Credit Act, 1995.
AER, EAR and CAR
The Consumer Protection Code (pdf) set out the rules for financial institutions on the use of terms such as AER, EAR and CAR.
Rates
In general, the lower the rate of APR on a loan is, the lower the cost of credit to the consumer will be.
The higher the rate of EAR the more interest you will earn, however, it will also cost you more if your account is overdrawn.
The higher the rate of AER or CAR on savings and investments the more interest you will earn.
Interest rates are effectively set by the European Central Bank. They can change daily.
How to apply
Ask at your credit institution about APR before you enter into any credit agreement.
Shop around for the best AER, EAR or CAR.
If you have a complaint against a financial institution, contact the Financial Services Ombudsman Bureau. If you feel that an advertisement in Ireland was misleading, you can make a complaint to the Advertising Standards Authority of Ireland.
Language
Related Documents
- Annual Percentage Rate (APR)
Irish law stipulates how APR must be displayed and expressed on credit advertisements. What is APR and what is its significance? - Borrowing money in Ireland
Consumers in Ireland who borrow money are protected by legislation. Advice on getting the right loan for your needs and how to shop around for a loan. - Types of Credit
There are many different types of credit available to consumers in Ireland. You will find descriptions of the most popular types of credit here.
Contact Us
If you have a question relating to this topic you can contact the Citizens Information Phone Service on 0761 07 4000 (Monday to Friday, 9am to 9pm) or you can visit your local Citizens Information Centre.