When you take out a loan, you may have to repay more than just the principal and interest. Many lenders also charge an origination fee, which could add hundreds of dollars in extra costs to your loan.
What is an origination fee?
A loan origination fee is an upfront fee charged by your lender to process a new loan application. Lenders use these fees to offset the costs of underwriting and verifying a new borrower. With mortgages, origination fees are sometimes referred to as points. Many personal loan lenders do not charge origination fees, but if they do, these fees can range from 1 percent to 8 percent of the loan amount, depending on your credit score and the length of the loan.
How are loan origination fees determined?
Origination fees are a percentage of the original loan amount for the services of getting you pre-qualified for a personal loan. If you can’t avoid a loan origination fee, you can typically repay it in one of two ways: roll the fee into your loan’s balance or take it out of the funds you receive.
The amount you will pay in fees is determined by factors such as:
- Your credit score
- Your assets
- Your liabilities
- Your total income
Greg McBride, Bankrate’s chief financial analyst, says that having the fee taken out of the loan principal may be the only way some people can afford a personal loan. “For a lot of borrowers, it’s much more convenient to have it come out of the loan proceeds simply because they may be strapped for cash to begin with,” he says.
Not all loans have origination fees. Some lenders advertise loans that don’t charge origination or processing fees, but don’t assume these offers are always the cheaper choice. If you’re considering a no-origination-fee personal loan, pay close attention to the loan’s other costs. Lenders still need to make money, so they may try to make their money back through higher interest rates or prepayment penalties instead.
Do I have to pay an origination fee?
For lenders that charge origination fees, that cost is a required loan expense — though you may be able to negotiate a lower rate. However, origination fees are not always a deal-breaker. For instance, origination fees on a loan could mean a lower overall interest rate because lenders with no origination fees may raise their interest rates to make up the difference.
With that said, you’ll need to keep in mind that in many cases, the origination fee will be taken out of your loan proceeds, meaning you may not receive your full loan amount.
Compare loans with an origination charge
Comparing loans with an origination fee will help you save money over time and ensure that you’re getting the best deal possible.
1. Get multiple quotes
As with any loan, it’s important to shop around to make sure you’re getting a good rate. Look at the best personal loan rates and find a lender that can provide what you need. Ask your loan provider if it requires an origination fee, and review the full terms and conditions of your loan to avoid hidden costs.
2. Look at the APR
Your loan’s annual percentage rate (or APR) is based on the interest rate, but it also accounts for other costs, including loan origination fees. When figuring out the total cost of repaying your loan, don’t include the origination fee on top of the APR. If you do, you’re probably estimating a higher cost than what you would actually pay.
For example, let’s say you’re comparing personal loans from two lenders. Both offer 5 percent interest and a loan term of five years. However, the first loan offer has an origination fee of 3 percent, while the second comes with a fee of 5 percent. The interest rate stays the same for both loans, but the APR for the first loan will be significantly lower than that of the second.
3. Consider the length of your loan
In general, the shorter your loan term is, the lower your interest rate will be. However, shorter loans usually have higher monthly payments. If you’re paying an origination fee on top of high monthly payments, you might be more inclined to opt for a loan without an origination fee to keep costs down.
Other personal loan factors to consider
When you get a personal loan, several factors will determine your interest rate and monthly payments.
1. Your credit score
Arguably the biggest factor that impacts loan rates is your credit score. Someone with a good credit score (670 and above) is more likely to receive a lower interest rate than someone with bad credit. If you’re thinking about getting a personal loan, consider taking the time to rebuild your credit beforehand. It could end up saving you thousands of dollars over the course of your loan.
2. Fixed- vs. variable-rate loans
With a variable-rate loan, your interest rate could change over time based on market rates, which could increase (or decrease) your monthly payment amount. A fixed-rate loan is the opposite, meaning that your payment amounts won’t ever change.
Loan rates vary based on where you live. Depending on your home state and the reason for your loan, some lenders will increase or decrease your rates to match. Ask your lender about how it calculates your interest rate and monthly payments so you can estimate the total cost of your loan.
How to save on origination fees
Origination fees are often attached to loans to help lenders make money while offering incentives to the borrower as lower interest rates and other fees that may be included. One of the best ways to save on origination fees is to get estimates from lenders who don’t include them in their loans. Credit unions often have membership requirements to join, but they also typically offer no origination fees on their loans.
Another way to save on origination fees is to negotiate the amount owed. You may not be successful, but it can’t hurt to try. If a lender knows you may choose another option if the fee isn’t reduced or waived, it might be enough to get them to reconsider.
The bottom line
All loans come with interest and fees, so it’s important to consider all costs when borrowing money. If you’re not careful, loan origination fees can add hundreds or even thousands of unexpected dollars to your loan.
If you’re in the market for a personal loan, make sure you do your research and find a lender that can give you the best rate possible. Reading the fine print and knowing the right questions to ask lenders can help you confidently choose a loan that is within your budget.