What is Loan Origination Fee and How Much Does It Cost?

Lidia Staron, author at OpenLoans
Lidia Staron   OpenLoans Marketing Manager
Personal Finance
I enjoy navigating people through important financial decisions.

Personal loans can be easy to acquire if you have a good credit score. There are plenty of lenders both offline and online for these consumers to choose from. Of course, the first rule of getting a loan is to find yourself the best offer available. That means you’re going to need to shop around. As you compare offers, you might notice that some lenders require you to pay more than just the principal and interest. Some lenders will charge you an origination fee.

Loan origination fee

Now, before you think that an origination fee is a deal-breaker, there are several factors that you'll need to consider. You might find that some personal loans with origination fees give you a better deal than others. To help you decide which is which, read this guide on loan origination fees. It should give you a better understanding of what they are, why they exist, and why sometimes they're worth it.

What is a Loan Origination Fee?

First things first. Let's talk about what this fee is. An origination fee is a fee charged by lenders upfront to cover the costs of processing your loan application. Some lenders might call this fee by a different name, such as an administrative fee, underwriting, or processing fee.

The origination fee is a one-time charge added to the overall cost of your loan. Because it is an upfront charge, lenders usually deduct this fee from the loan amount instead of making you pay the fee out of your own pocket. This means that when you're applying for a loan, you will need to factor in the fee to your total loan amount if you don't want to fall short.

How much are loan origination fees?

Personal loan origination fees are not flat fees. Instead, they are a percentage of the total loan amount. The percentage typically ranges from 1% to 8%. There are several factors that will determine the fee that you are given. These factors include your credit score, loan amount, and the life of the loan. The origination fee may be included in the annual percentage rate (APR) of the loan which is the true cost of borrowing the money.

Let's say you want to borrow $10,000. Depending on the origination fee provided by the lender, you could be required to pay a fee ranging from $100 to $800. Now, let's say you need the full $10,000 in order to consolidate debt or pay for home repair. You need to make sure that you factor in how much the origination fee is, so you can request the right amount. This means that if the origination fee is 5%, you will need to request $10,527 in order for you to receive the full $10,000.

Are There Personal Loans Without Origination Fees?

While there are lenders that charge origination fees (which is typical with online loans), there are some that don't. These are usually direct lenders like credit unions and banks. Instead, these financial institutions typically earn their profit from the interest rate they offer. Of course, there are also lenders who don't charge a loan origination fee. But they usually offer their loans to people who have good or excellent credit. Either that or they opt to cover the cost of processing applications in other ways. Not all loans without processing fees will be cheaper. Some lenders will try to get their profit through higher interest rates. Others may have other fees attached to the loan such as prepayment penalties, check processing fees, and returned check fees. Make sure that you check all associated fees included in the loan when you're shopping around.

Should I pay the loan origination fee?

An origination fee isn't necessarily a bad thing. Yes, it could potentially cost you hundreds of dollars. Having to pay out a higher loan amount just because of that pesky fee doesn't sound like it's a good thing. Well, that being said, there are certain situations where paying the fee won't hurt you as much as you think.

APR

The APR or annual percentage rate of the loan refers to the annual cost of borrowing the money. As we've mentioned earlier, it isn't just based on the interest rate of the loan. It also includes all the fees that a lender charges. This means that the APR calculation should include the loan's origination fee. That's why when you're estimating the true cost of your loan, make sure that you don't add the fee on top of the APR provided. Otherwise, you might get a higher cost than what is actually being offered. In some cases, you'll find that the APR with the fee included is still lower than the APR offered by lenders who are not charging a loan origination fee. In short, don't dismiss a loan just because there is an upfront charge. 

Here's an example: let's say you got two loan offers. Both of them have a loan term of five years. One charges an origination fee of 3% while the other doesn't. However, the APR of the first loan (with the origination fee) is 20% while the other one is 23%. Obviously, even with the origination fee, the first loan is the better deal.

Another thing you should consider when choosing between loans with and without origination fees is the type of APR. Personal loans can be fixed-rate loans or variable rate loans. A fixed APR means that the APR of the loan will not change throughout the life of the loan. This means that your payments won't change even if the interest rate in the market changes. A variable APR, on the other hand, can change because its rate is dependent on an index interest rate which fluctuates. This could mean potentially getting a lower APR sometime during the life of the loan. It could also mean a higher APR due to the rise of market rates. When choosing a loan, go with a fixed APR to make budgeting easier and more predictable.

Length of the Loan

The length of your loan affects the overall cost of your loan. Generally, you'll find that short-term loans have lower interest rates. However, this typically translates into higher monthly payments. On the other hand, long-term personal loans can mean a higher interest rate but lower monthly payments.

Now, when you're factoring in the origination fee, you should consider it as part of the total cost of the loan. For example, let’s say you are going to be charged an origination fee of $500 for a $10,000 loan. If the loan term is five years, you can look at it as an additional cost of $100 per year. However, for a shorter loan term, let's say two years, that amount goes up. Instead of $100 per year, the fee will cost you an additional $250 per year.

In short, an origination fee is more worthwhile if you are getting a loan with a longer repayment term. This allows you more time to cover the cost of the fee, especially if the lender includes it in your total balance instead of an upfront cost.

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