What Is Variable APR—Everything You Need to Know to Secure a Lower Rate

Updated · May 11, 2022

The numerous terms you come across when you’re getting a loan or a credit card can be overwhelming.

Luckily, you don’t need to understand and remember all of them.

But you do need to know what an APR is and how it works.

That’s simple when you have a fixed rate. But things are a bit more complicated when the APR is variable.

What Is a Variable APR?

The annual percentage rate (APR) is the yearly interest rate plus other fees and charges you pay on a credit card, mortgage, etc.

It can be fixed or variable.

As the name suggests, the variable APR changes over time. And while the fluctuations aren’t random, they can come as unpleasant surprises.

And get this:

Financial institutions aren’t obligated to notify you of every change in advance. So, before you agree to the terms of the loan, make sure you understand them.

So, what is a variable APR and how does it work?

It has two main components—a base rate and a margin.

The base rate is determined by an economic benchmark. Usually, that’s the prime rate or the London Interbank Offered Rate (LIBOR). The margin depends on the financial institution and your credit history.

Variable APR vs Fixed APR

Apart from variable APR, financial institutions offer loans and credit cards with a fixed APR.

With it, the interest rate doesn’t change over the life of the loan.

This offers some protection against rate hikes. Plus, it’s more predictable, which makes budgeting easier.

However, the variable rate has one big advantage.

If you get a short-term loan at a time when the financial indexes are falling, you’ll pay it off with lower interest.

Of course, that’s easier said than done. But if you know what variable APR is and how it works, you can use that to your advantage.

How Does the Variable APR Change?

The variable component of the APR is the base rate. The margin is fixed.

Base Rate

The prime rate is what banks charge their best customers. It is a financial index published by the Wall Street Journal.

It is influenced by the rate the Federal Reserve sets for banks to borrow money from each other (federal loan rate).

The London Interbank Offered Rate (LIBOR) works the same way as the prime rate. But instead of the Federal Reserve, it is tied to the London wholesale money markets.

Financial institutions use one of these indexes as a benchmark to determine the variable APR on a credit card, loan, or mortgage.

Lenders in the US use LIBOR mainly for corporate transactions. That said, its usage in consumer loans increases.

When the prime rate or LIBOR goes up, the bank's base rate increases. The variable APR follows suit. The margin acts as a cap on how much your interest can grow.

There are other factors that could trigger changes in your APR, whether it’s variable or fixed.

Let’s go over them too.

Penalty APR

If your APR goes up unexpectedly, check your statement. It might not be due to fluctuations in the base rate but a penalty.

If you miss a payment, go over your limit, or do any other action that violates the terms of your credit card agreement, the creditor will charge you higher interest.

Check why that is and what you have to do to fix it.

Promotional APR

Some companies offer a promotional APR on your credit card. That’s a period during which you don’t pay interest on the balance you carry.

Typically, it lasts between six months and a year. Then, the APR will increase to the regular rate.

That’s a great way to avoid paying interest for a while. Just make sure you pay off your balance before the end of the period.

Otherwise, the creditor will charge you interest. The catch is that it calculates the amount accumulated since the day you made the purchase.

Credit Score

The variable APR isn’t good or bad. It all comes down to how you manage your finances.

Your APR depends greatly on your credit score. With a good score, you can get a lower interest.

Even if you started with a bad score and a high APR, you could change that.

First, you need to increase your credit score. If you pay off the full balance on time regularly, you’ll improve your creditworthiness.

Then, try to negotiate a lower rate with your lender.

If that doesn’t work, you can shop around for a lower credit card variable APR. Some companies offer balance transfers with a 0% introductory interest.

What Does a Good Variable APR Mean?

Over the past few years, the US prime rate has been around 3%. Anything above that is added interest by the lender.

The standard for a good APR will vary with the changes in the market. If the prime rate falls, financial institutions start offering lower interest.

That said, the APR also largely depends on the type of credit.

For instance, a variable APR of 26.99% might be acceptable for a personal loan. It isn’t a good one but it varies between 4% and 36%.

Student loans have much lower rates—3% to 5%. The average APR for an auto loan is usually between 4% and 10%.

Last but not least, a good credit card APR is anything below 18%. This is the average rate offered by financial institutions in the US.

Wrap Up

When it comes to credit, it’s important to understand all the terms and conditions you agree to.

You can start by learning what variable APR is and how it can impact your finances.

If you know how it works, you could even use it to your advantage.

Aleksandra Yosifova
Aleksandra Yosifova

With an eye for research, Aleksandra is determined to always get to the bottom of things. If there’s a glitch in the system, she’ll find it and make sure you know about it.