So, you’re looking into getting a loan—or you’re in the process of applying for one—and you see a reference to an origination fee. What is it and why is it important for you to know how much it is?
An origination fee is a charge made by a lender to cover the costs of working on a loan. It pays for things like underwriting the loan, verifying documents, and pulling a credit report. You may find an origination fee attached to mortgages, auto loans, personal loans, and other types of loans. It’s a routine part of the cost of borrowing money.
Smart consumers (like you!) look at the annual percentage rate, or APR, which includes origination fees to make it easier to compare loan terms.
While origination fees add to the total cost of a loan, they’re usually not as big a factor as the interest rate. So how do you know if an origination fee is worth it? It’s all about understanding the total cost of a loan. Before we get to that, let’s talk a bit about the loan application process.
What is Personal Loan Origination?
Loan origination is the creation of a loan, starting with the application process. When you apply for a loan, you’ll notice it must go through different stages. It can be helpful to know what to expect at each. The loan origination process can include pre-qualifying, filling out an application, and accepting your new loan.
Personal Loan Pre-Qualification Process
Pre-qualifying for a loan is a great way to find out what interest rate you can get. A lender might pre-qualify you for a loan and send you a notification in the mail. Some lenders may even pre-qualify you when you provide them some basic information online. When you pre-qualify, the lender does not do a hard pull of your credit (meaning, they don’t do a full credit check), and this “soft-pull” has no impact on your credit score.
Personal Loan Qualification
After you apply for a personal loan, a lender will review your application and see what they can offer. While the exact requirements to qualify for a personal loan vary by lender, here are a few factors that are likely to be considered:
Information Needed to Complete the Loan Origination Process
While applying for a personal loan has become quicker than ever, sometimes a lender will ask you to help verify the information you shared in an application. As the lender decides whether to underwrite the loan, it wants to know that the borrower can repay it. For a personal loan, the lender might ask for a bank statement or a federal W-2 tax form. It also might be helpful to have a paystub in hand when you’re applying in case the lender wants information about your income.
What is a Loan Origination Fee?
So, now that we’ve got an idea about the application process, where do origination fees come into the conversation? Remember, origination fees (sometimes called a “finance charge,” an “upfront fee,” or an “origination charge”) are charged by some lenders to cover the costs associated with working on a loan. Understanding an origination fee can help you compare the cost of borrowing money among lenders for the life of a loan that you’re applying for.
How Do Origination Fees Work?
Not every origination fee is created equal. Most origination fees are calculated based on a few factors, and those factors are often the same ones used to determine the interest rate and the loan amount you were approved for. Some of the factors that can influence the origination fee include:
- Your credit score
- The length of the loan
- The information you provided in an application, like income
How to Spot an Origination Fee
When applying for a personal loan, mortgage, or auto loan, you can see if there is an origination fee when you review the Truth in Lending Statement. This document will show you the cost of the origination fee, how it was calculated, and how it factors into the total cost of the loan.
How Much Do Origination Fees Cost?
The cost of an origination fee will vary depending on the type of loan and the lender. For a home mortgage, origination fees range from 0.5% to 1.5% of the loan amount. So, for a $250,000 mortgage, it would be $1,250 to $3,750. Lenders charge a wider range for personal loans, roughly 1% to 10%. For a $25,000 loan, that would equal $250 to $2,500. Also, lenders sometimes charge a flat fee.
Depending on the lender’s requirements, you can pay the fee up front, have it added to the total loan amount and pay it as part of the monthly installment payment, or have it taken out of the total loan amount. If you have the origination fee taken out of the total loan amount, that will impact the amount of money you receive from the lender. For example, if you were approved for a $25,000 loan and had a 6% origination fee ($1,500), you would receive $23,500 from the lender. But, remember, your monthly payments would be based on the full $25,000, the interest rate, and any other fees.
What You Should Know When Obtaining a Personal Loan with an Origination Fee
When applying for a personal loan, take the time to do your research. If you’re applying for a loan with an origination fee, review all the documents a lender provides to see if there’s an origination fee and how much it will cost. Then compare that to the total cost of your other offers. This is important because sometimes a personal loan with an upfront fee and a low interest rate will cost the same as one without an origination fee but a higher interest rate.
Other points to compare are application fees, late fees, down payments, discounts for autopay, and penalties for prepayment. The APR offers a good starting point, but it’s a good idea to compare all the features of a loan.
Making a decision on which personal loan offer to accept can be hard. So, stay focused on your long-term financial goals, do the math and pick the offer that works best for your financial goals.