A utilization fee is a periodic charge some lenders impose on borrowers whose outstanding balances exceed a specified percentage of their available credit. Utilization fees are particularly common in revolving lines of credit and term loans for businesses.
Key Takeaways
- A utilization fee is an additional charge assessed by a lender, separate from the interest owed.
- These fees are frequent with revolving lines of credit and some term loans.
- Typically, utilization fees are triggered when a borrower’s outstanding balance surpasses a certain percentage of their available credit, calculated based on that balance.
- Other common loan contract fees include origination fees, commitment fees, and facility fees.
How Utilization Fees Work
Certain loans are designed to provide borrowers with a set amount of money without requiring them to take it all at once. A line of credit is a prime example. For instance, a borrower might have a credit line of $20,000 but initially draw only $5,000. This leaves $15,000 available for future use. Borrowers will only owe interest on the active, outstanding debt.
Loans carrying a utilization fee add an extra layer of cost, typically if the borrower utilizes more than a pre-defined amount of money. The rationale is that lenders expect their borrowers, as a group, not to max out their loans to avoid straining the lender’s capital resources. Utilization fees provide another revenue stream while also incentivizing borrowers to minimize their outstanding balances.
Note
Utilization fees can also be referred to as “usage fees.” Some contracts may even impose these fees if too little credit is utilized.
Typical Utilization Fee Terms
If a loan or line of credit includes utilization fees, this should be detailed in the lending agreement. The exact terms can differ by lender and loan type. Payments can be required annually or quarterly, with fees assessed based on a quarterly or even daily review of the outstanding balance relative to the available credit line.
Clauses might set the threshold at 33.3% or 50% of the total available credit before utilization fees kick in. In some scenarios, fees could be charged against the outstanding balance regardless of its percentage of the total credit line.
Other possible charges in lending agreements include origination fees, commitment fees, and facility fees.
Example of a Utilization Fee
Imagine a business borrower with a $2 million line of credit that includes a utilization fee clause, setting a 50% threshold. For three days, if their outstanding balance exceeds $1 million, they would incur a utilization fee for those days. If the balance stayed below the threshold, no fee would apply.
What Is an Origination Fee?
An origination fee is a one-time charge by the lender at the start of a loan, typically a percentage of the loan amount. Common in home mortgages and other installment loans, origination fees are also known as initiation or processing fees.
What Is a Commitment Fee?
A commitment fee compensates a lender for committing to keep a line of credit available for the borrower, used or not. Typically relying on the unused credit portion, these fees can be flat or percentage-based. According to the IRS, business borrowers can’t deduct commitment fees as interest but may treat them as business expenses.
What Is a Facility Fee?
In lending terms, a “facility” refers to a set amount a borrower can draw upon as needed. Facility fees, uncommon in revolving lines of credit, are charged on the entire available amount rather than the unused part only.
What Is a Credit Utilization Ratio?
The credit utilization ratio represents how much of revolving credit a borrower uses compared to the total available credit. This ratio significantly influences credit scores. Scoring formulas and lenders favor lower ratios to determine a borrower’s creditworthiness, with a recommended limit below 30%.
The Bottom Line
Utilization fees are among several charges lenders might include in loan agreements. It’s crucial for borrowers to scrutinize the terms beyond just the interest rate. Awareness and prudent management of outstanding balances can help borrowers avoid triggering utilization fees.
Related Terms: Origination Fee, Commitment Fee, Facility Fee, Credit Utilization Ratio, Credit Scores
References
- United States Government Accountability Office. “Loan Commitments: Issues Related to Pricing, Trading, and Accounting”.
- Internal Revenue Service. “Publication 535 (2022), Business Expenses”.
- myFICO. “What’s in My FICO Scores?”
- Consumer Financial Protection Bureau. “How Do I Get and Keep a Good Credit Score?”
