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What Is a Personal Loan Origination Fee?

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If you're planning a home renovation project or considering debt consolidation, you may be in the market for a personal loan.

The best personal loans can be amazing financial tools. But if you're not careful, additional costs added on by lenders can catch you by surprise. One expense to watch out for is an origination fee.

Here, we'll break down what an origination fee is and discuss how you can avoid paying more than necessary.

What is a personal loan origination fee?

An origination fee is an extra charge some lenders require borrowers to pay. The lender will probably explain that the origination fee covers their "expenses," like processing your loan application, running a credit check, and helping you close on your unsecured loan.

Whether that answer is legitimate is a matter of debate. The fact that some personal loan lenders charge no origination fee, even while offering a lower interest rate, makes the fee feel more like an unnecessary expense than payment for services rendered.

Different lenders have various names for their origination fees, including:

  • Processing fee
  • Administrative fee
  • Origination fee

Lenders typically charge the upfront fee by taking it out of the loan amount.

Let's say you borrow $20,000 and the lender charges a 3% origination fee. The lender would take their $600 ($20,000 x .03 = $600) origination fee from the top of your loan and disburse the rest to you. Because of the origination fee, $19,400 would be deposited into your bank account instead of $20,000. Still, you would pay interest on the entire $20,000.

How much is a personal loan origination fee?

Lenders who require a loan origination fee typically charge between 1% and 8%. On a $20,000 loan, that's between $200 and $1,600.

Due to interest, you actually end up paying more for the origination fee even though you never saw the funds. For example, if the origination fee on a $20,000 loan is 3% ($600) and the interest rate you pay on the entire loan amount is 8% for five years, you will pay a total of $4,332 in interest over the life of the loan. $136 of that total will be interest paid on the $600 origination fee, meaning the fee actually costs you $736.

Do all personal loans charge an origination fee?

No, not all lenders charge an origination fee. If you're a borrower with excellent credit, there's no reason to settle for a lender that charges an origination fee. Some personal loan lenders offer fee-free loans. That means no origination fee, no closing costs, no prepayment penalty -- no loan fees at all.

Negotiating a lower personal loan origination fee

Negotiating loan fees is all about having leverage. When you don't need a loan, you have leverage. When you have an excellent credit score and any lender would be glad to have you as a customer, you have leverage. When you are willing to put up something valuable as collateral, you have leverage.

Not all lenders are willing to negotiate fees. If you don't try, though, you're potentially leaving money on the table.

The perfect time to negotiate fees is after the lender has pre-approved your loan application and given you a loan offer. This is also when the lender fills you in on the details of the loan, including:

Once you know that a lender wants you as a customer, it's time to announce that you would like to negotiate the origination fee. If the lender knows that you have excellent credit, they are far more likely to negotiate the fee.

Other options to consider

If a lender won't negotiate fees, don't let it bother you. It's only business. Not only are there other lenders to shop around for, but there are also other options to consider. For example:

Apply for a secured loan

There are two types of personal loans: An unsecured loan and a secured loan. Here's the difference:

Unsecured loan: An unsecured loan doesn't require collateral. It essentially counts on you to make your monthly payment as promised. If you fail to do so, the lender can sue you, but it can't repossess anything you own.

Secured loan: For this type of loan, you have to have something of value that can be used as collateral. It's the collateral that inspires a lender to take a chance on you -- even if you have bad credit. If you miss payments, the lender can repossess the collateral and sell it to get their money back. The property you offer as collateral must be equal to or greater than the value of the loan amount requested.

Anything that can be sold to pay past-due loan payments may be considered as collateral. Some property commonly used as collateral includes:

  • A house
  • Investments
  • Land
  • Vehicles
  • Coins
  • Jewelry

If the collateral is valuable enough, the lender may be agreeable to negotiating origination fees.

Focus on your credit score

An excellent credit score can make it easier to negotiate an origination fee. If it's possible to postpone applying for a personal loan, you're likely to be money ahead by increasing your credit score before applying.

If you need the loan now, but your credit score is not quite up to snuff, don't worry. You can make this work. Look for personal loans for bad credit, and borrow only as much as you need.

Personal loans can help your credit score -- by giving you an opportunity to make on-time debt payments. Once your loan is paid off, your score will be higher, and you'll be in a better position to compare lenders.

Look at the entire loan offer, not just the origination fee

An origination fee is not necessarily a bad thing and should be weighed against the rest of the loan offer.

Let's say you're borrowing $20,000 for 60 months. Here's a situation in which the lender charging an origination fee is actually the better choice:

Lender A Lender B
Amount borrowed $20,000 $20,000
Time borrowed 60 months (5 years) 60 months (5 years)
Origination fee 3% ($600) None
Interest rate 4.5% 6%
Interest paid over life of loan $2,372 $3,199
Total cost of loan (fees + interest rate) $2,972 $3,199

In addition, some lenders offer perks, like allowing you to skip a payment after making 12 payments in a row. Before you decide on a particular lender, though, make a list of what each has to offer and compare them side by side.

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