Fundera Whiteboard Series: APR vs Cost of Capital

Updated on February 26, 2020
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When making a decision between two small business funding options, you’ll often be asked if you prefer lower APR or a lower cost of capital.

But what does that actually mean?

APR or annual percentage rate (i.e. 15.18%), is the annual rate charged for a borrowing a sum of money. It’s standardized across the lending industry—and is the best metric for comparing loans, apples to apples.

The cost of capital (i.e. $1574.78) is the dollar amount you are paying to borrow a sum of money. It’s quoted as a dollar amount rather than a percent—and can be thought of as “the cost of borrowing money.”

Wouldn’t a business loan with a lower APR have a lower cost of capital? Not quite.

Let’s See Why!

Loan A

$10000 Principal
12% Interest Rate
2-year term
5% Origination Fee
15.18% APR
$470.73 Monthly payment
$1797.63 Cost of Capital

Loan B
$10000 Principal
10% Interest Rate
5% Origination Fee
13.56% APR
$322.67 Monthly payment
$2,116.19 Cost of Capital

You’ll see that Loan A has a higher APR and higher monthly payments, but the loan has a lower cost of capital.

Loan B has a lower APR and lower monthly payments, but has an overall higher cost of capital.

To choose between these options, you’d need to ask yourself:

Do you want lower payments or a lower total cost of a loan?

If you want smaller payments, choose the loan with the lower APR. If you to pay less overall, choose the loan with the lower cost of capital.

Still unclear? Let us know in the comments. If we answered your question, give us a like, a share, or subscribe to our channel.

Ben Johnson

Ben Johnson is the former content marketing manager at Fundera. He specializes in data-driven studies and life hack articles to help business owners prepare for the future.
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