Worrying about the financial implications of buying a home can seriously dampen the excitement of being a new owner of a home. Two factors people usually consider when shopping for a home is the down payment and the type of home loan they want.
However, when thinking about purchasing a home, there is one major expense many buyers tend to forget about and that is the loan origination fees.
Loan origination fees are charged by all mortgage lenders and can end up adding hundreds of thousands of dollars to the total cost of the loan.
Mortgage lenders charge these fees so they can earn money on their loans. However, many people are usually under the impression that the interest rate will include all of their fees and closing costs. But that is usually not the case. Lenders tend to charge additional fees on top of the interest rate.
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What are Loan Origination Fees?
According to the loan origination fees definition, origination charges are fees paid to your lender for processing your loan application. It depends on your lender if they want to bundle the costs into one line item or itemize them. However, if they are itemized, you are likely to see the fees take on different names such as application fees, underwriting fees and processing fees. These charges by the lender can also include “points,” which are optional payments through which you can get lower interest rates.
Using terms like “processing fees” will not tell you much, especially about what you are paying for. However, lenders tend to charge these fees for all the tasks that are required to close your loan.
You can typically expect these fees to pay for the following:
- Gathering and organizing your documentation.
- Analyzing your income, including complicated income sources such as self-employment, deductions and rental units.
- Requesting information from employers, the IRS and others.
- Verifying the accuracy of documentation provided.
- Ensuring that your application meets the criteria for a government program or ensuring that it is sold to investors.
How do Loan Origination Fees Work?
Origination fees are usually quoted by lenders as a percentage. On average, these fees can range from 0.5 percent to 1 percent of the total loan cost. These origination fees can also include point purchases which is the money you pay to get a lower interest rate.
Loan origination fees do not increase at closing except for due to specific circumstances. The costs could go up if you had changed the type of loan you want or you reduced the down payment or the home’s appraisal came in lower than expected or your credit score had changed. If you work with an experienced loan officer, you can manage navigating the closing process easier.
How do I Avoid Loan Origination Fees?
Loan origination fees may be negotiable, however, there is no way you can completely avoid them. You can minimize the origination fees so that you do not have to pay as much.
Lenders are more willing to negotiate origination fees for higher loans so that a customer is encouraged to work with them. Most lenders do not waive all the loan origination fees since it is the primary way they can earn money from each transaction.
If you opt out of a loan origination fee, you can end up having to pay higher interest rates and a higher monthly payment since the lender needs to make from loan transactions. Lenders can offer you “lender credits” which can help cover the origination fees. However, this usually results in a higher interest rate.
Alternatively, you can ask the seller to pay for the loan origination fees themselves as a concession. However, most sellers will only agree to this if they are already having difficulty selling the property or they want to move quickly.
Even though you may not be able to avoid loan origination fees altogether, you can make sure you get the best deal possible by shopping around for it. You can compare multiple lenders which can take a little extra time but it can save you thousands of dollars over the life of your loan.
Here is how you can minimize the impact of origination fees:
1. Shop Around.
If you are thinking of taking any significant loan, a good idea is to shop around and get quotes from at least three different sources. Then you should compare those quotes, focusing on the interest rates and the total lender charges to find the best deal. You should make sure that you are including all the different forms that an origination charge can take where the specific names are less important than the total dollar amount is.
2. Just Pay.
The most straightforward approach you can opt for is to just pay upfront fees. Coincidentally, this is also the most painful approach initially but it can have its upsides.
You will know how much you are exactly spending and your loan is more likely to have lower rates when you are paying the fees upfront.
No-cost loans may be promoted by advertisers but nobody will work for free. The less you have to pay upfront, the higher your interest rates will be. You should try to keep the big picture in mind when considering the total cost of a loan rather than how much you will be spending on any single day.
3. Get Lender Credits.
This is the opposite strategy to paying upfront. You can choose to pay a higher interest rate by which your lender will make the funds available to you so you can pay closing costs. This is known as lender credits. It is best to do this with a transparent lender that can show you several options which will include those with and without lender credits. If you opt for a higher rate, you will have to pay more interest over the life of your loan thus, this strategy will make the most sense if you plan on keeping the loan for only a short period of time.
You can negotiate with your lender and ask them to waive origination fees without your interest rate changing. Your lender might not do it but you will never know until you ask. You can have the best chance of saving money if you have a good credit score, a relatively large loan and an uncomplicated income source.
5. Get Gifts.
If your relatives are generous, you can request your lender if you can pay the loan origination fees with gifted funds. However, if you are using gifts to help with mortgage down payments, you are bound to have extra complications. The lender might have rules about the kind of gifts that can be used to pay these fees. The money from the gifts may only come from an immediate family member who is also willing to document the gift in writing.
6. Seller Concessions.
If you are buying property instead of refinancing it, the seller might pay off some of the closing costs for you as long as this is allowed in the purchase agreement. Even in a seller’s market, this can be an option if your offer price is adjusted to reflect the concession.
How Much Should You Pay?
Origination charges can depend on multiple factors. You might be expected to pay as little as 0.5% for processing charges or the maximum 2% on the higher end. However, these fees need to be evaluated with other factors in mind. For example, your interest rate.
Generally speaking, larger loans tend to come with smaller fees. The work that goes into underwriting a small loan is much similar to the work that goes into larger loans. However, it is less of a payoff since smaller loans are usually paid off quicker than larger loans and do not even accrue as much interest.
Therefore, it is common for borrowers to pay relatively high origination charges for seemingly small loans. This is why loan origination fees are usually not something borrowers get excited about.
Why is my Loan Origination Fee so High?
Loan origination fees for personal loans tend to be high. This is because personal loans are typically unsecured and do not have any collateral as backing leading to the highest loan origination fees in this category. Since these loans have more risk for lenders, they can end up charging you anything between 1 to 6 percent of the total amount you borrow.
Even though loan origination fees add to the cost of your loan which is why borrowers are often seen asking, “how do I avoid loan origination fees?”, they can, in some cases, work in your favor. Be sure to use a loan origination fee calculator to find out your charges along with comparing different lenders’ offers. It is important that you compare all costs when you are comparing loans as origination fees may be applied or calculated in several different ways depending on the lenders.
You should ask your lender questions regarding how the fees are applied and what payment options will be available to you. You should always make sure to look at what exactly the origination fee constitutes. Once you have done your homework and have the proper tools and the right lender, you are well on your way in getting the best loan according to your needs and budget.