You’ve done all the legwork to get pre-approved for a mortgage. But when you sit down to review the numbers with your loan officer, you suddenly get sticker shock. The monthly mortgage is a bit more than you anticipated due to fees that you didn’t factor in, particularly the loan origination fee.
That’s not abnormal, but maybe you don’t quite understand what the fee means, how it’s computed, and if there’s a way to reduce the amount. Read on to learn more about loan origination fees and how to lower them.
What Is a Loan Origination Fee?
In a nutshell, a loan origination fee is a figure that’s attached to mortgages to cover the administrative costs associated with processing the loan. When reviewing loan documents, you may notice that it’s listed as a loan application, processing, underwriting, or miscellaneous administrative fee. Wondering what that entails?
For starters, you’ll be required to submit a host of documents when applying for a mortgage, including but not limited to:
- Proof of income (i.e. pay stubs, w-2 forms, 1099 forms)
- Bank statements
- Two years of tax returns
- Documentation for other asset accounts
Once you’ve submitted everything requested by the lender, the loan officer will do the proper legwork to determine how much home you can afford by analyzing your income and outstanding debt obligations. And they will confirm that the information provided is accurate by cross-referencing what you’ve presented with employers, financial institutions, and the IRS.
Another integral part of the loan process is determining which mortgage product works best for the prospective borrower. And guess who analyzes the borrower’s financial situation to make that call? The loan officer, so that’s yet another reason why lenders tack on origination fees.
The loan officer will also be responsible for organizing and possibly uploading the documents for submission to the underwriting department if a manual underwrite is required.
How Loan Origination Fees Are Computed
On average, you’ll pay between 1 and 2 percent of the loan amount in origination fees. But some lenders charge as little as 0.5%, and others may agree to cover or waive the loan origination fee.
To illustrate using three loan amounts:
|Loan Amount||Origination Fee Percentage||Total Origination Fee Paid|
As mentioned earlier, loan origination fees are sometimes noted as something else. So if you’re having a hard time figuring out how much you’re being assessed, be sure to reach out to the lender for clarity.
Worried you won’t be able to come up with the cash to cover the fee? The lender may permit you to tack it onto the loan. Doing so may help in the short-term, but keep in mind that you’ll pay interest on this amount over the life of the loan. Consequently, it may be better to borrow the funds from a relative or friend (if permitted by the lender), save the cash on your own, or negotiate with the lender to get the figure to a more reasonable amount. More on these strategies shortly.
How to Lower Your Loan Origination Fee
Not having much luck with the lender? Here are some other tactics that could help you lower your loan origination fee:
Ask the Seller for Help
Working with a builder to purchase a new construction home? Many offer seller concessions to offset the out of pocket costs that their buyers will have to cover at the closing table. But if you’re buying from a private seller, they may also be willing to contribute to closing costs, especially if they’re earning a substantial profit, to close the transaction in a jiffy and get the home off their hands.
Requests Funds from Friends and Family
What if the seller isn’t willing to pitch in? If you’re using a government-backed or conventional loan program that allows funds to be gifted to cover closing costs, you could ask friends or relatives to chip in and help you out instead of giving you a housewarming gift. While this approach technically doesn’t lower the loan origination fee, it minimizes your out of pocket costs.
Explore Other Lenders
If the lender won’t negotiate, you have the option to look elsewhere. You may find that there are some who are willing to lower the amount of the loan origination fee and or not add any fees to the loan to earn your business.
When exploring mortgage offers, loan origination fees aren’t the only thing you want to pay attention to. The interest rate is even more significant as a small rate increase of just one percent could cost you thousands more over the life of the loan. So, if the lender is charging a slightly higher loan origination fee but their rate is lower than their competitors, it may be better to move forward with them and save money over the life of the loan.
To illustrate, assume you are applying for a 30-year-fixed rate loan for $300,000. Lender 1 charges a loan origination fee of 1.5 percent and is offering an interest rate of 3.5 percent. Lender 2 has agreed to decrease their loan origination fee to 0.5 percent to make the closing costs more affordable, but their interest rate is 4.5 percent. Here’s how this scenario would play out:
|Monthly Payment (principal only)||Total Cost of the Loan||Interest Paid Over the Life of the Loan||Loan Origination Fee|
As evidenced by the chart above, it’s better to spend more upfront with Lender 2 to save thousands over the life of the loan.
The Bottom Line
Loan origination fees can be steep, but they’re not the only factor to consider when applying for a mortgage. The interest rate plays a more important role in the life of a loan, so it’s always a good idea to shop around before deciding on a lender. This allows you to select the lender with the most competitive offer for your financial situation.