How Does Interest Capitalization Affect Student Loans?

Katie Taylor Updated on May 13, 2019

Raise your hand if you'd like to increase your student loan balance. Yeah, I didn't think so.

Unfortunately, many borrowers do exactly that without realizing it when they take advantage of federal programs like income-driven repayment plans, forbearance or deferment. Why? Interest capitalization.

What is interest capitalization?

Your student loans begin accruing interest the day they're disbursed. So the day you start college, your loans are already accruing interest. And they continue to do so over the next four years. 

Let's go back in time for a moment ... back to when you first started college: You're not making any payments on your loans because you're in school and enjoying the grace period that a federal loan servicer offers students. You're in a happy little bubble. 

But once you've graduated ... pop! Your loan servicer takes all the interest that accrued during those four years and adds it to your loan balance. That new, higher number becomes your new loan balance.

That's interest capitalization.

Of course, if you had a federal subsidized loan, the federal government paid that interest for you during those four years. But if you had an unsubsidized loan or a private loan, the interest that accrued unpaid during that time will be capitalized at the end. 

What triggers student loan interest capitalization?

Interest can also be capitalized if you're making payments, but they're not large enough to cover the full amount of interest accrued.

If you're making payments through an income-driven repayment plan for a federal loan, interest is capitalized after certain triggering events, such as:

  • Failing to meet a "financial hardship" requirement
  • Leaving the repayment plan, or
  • Failing to submit the documentation required to remain in the program.  

If you have a private loan, interest is capitalized every month you have unpaid interest. 

How does interest capitalization affect your student loan payments?

So let's say you have $60,000 of federal unsubsidized student loans from your undergraduate degree. You get into an awesome graduate program, and you apply to have your undergrad loans deferred because that's one of the benefits of having federal loans. Woohoo, you're thinking. No more student loans for two years! 

You finish your grad program, and you get your first bill from your loan servicer. The debt balance that used to be $60,000 is now $68,160, and they're saying it's all principal. How did that happen? Well, you were accruing interest at 6.8% for two years, and right before they took you off deferment, your lender capitalized the interest. 

Now, instead of future interest being calculated based on a $60,000 balance, it will be calculated on a $68,160 balance—meaning your monthly payments may go up. And it'll take you longer to pay off the debt. 

In short, interest capitalization is not your friend.

New call-to-action

How can you avoid interest capitalization? 

Unfortunately, there's no magic trick for avoiding interest capitalization. But there are a few things you can do to reduce the chances that you'll be staring at an unexpectedly large loan balance. 

1. Pay the interest 

If you defer your loans, consider continuing to make interest payments during the deferment or forbearance period. Even if you can't pay the full amount, small additional payments throughout will help to reduce the interest that gets capitalized. 

If you have the funds, you can also pay the interest in one lump sum near the end of a grace period before it capitalizes. 

If you're on an income-driven repayment plan, check to see whether you're paying enough to cover the interest every month. If you're not and you can afford to pay a little more, do so. Even if you're only able to make small sporadic payments, those will help reduce the total interest accrued. (However, if you're banking on taking advantage of any form of student loan forgiveness, it's best not to pay any more than you have to.)

2. Make strategic loan decisions

If you're able to choose federal subsidized loans when you're borrowing, you'll benefit from the government making your interest payments during a grace period. If subsidized loans aren't an option, a good rule of thumb is always to take out the smallest amount you need to cover your costs. 

3. Refinance your student loans 

Yes, that bigger loan balance is hard to stomach, but you don't have to be stuck with those monthly bills until you retire.

Refinancing your student loans could lower your interest rate, meaning you could actually end up paying less over the life of the loan. In fact, the average borrower who refinances their student loans saves approximately $16,183 over the life of the loan. 

See how much you could save.

Published in: Student Loan Debt

About the Author
Katie Taylor

Katie Taylor is a content writer and editor with expertise in law and policy, finance, and entrepreneurship. She writes for startups and small businesses about everything from bookkeeping to telecom. Her work has been featured in The Washington Post and She is continuing to pay off law school loans and lives in Richmond, Vermont with her wife, son, and an unruly dog. Read more by Katie Taylor

Refinance and Save Today With These Lenders

#1 - Nitro Recommended View More Details

Special offers for medical resident and fellow refinance products

  • Fixed rates: 2.49% - 6.31% APR
  • Variable rates: 1.88% - 6.15% APR
  • Minimum credit: 650
View More Details
Visit Splash View Loan Disclosure

Splash Financial is a leader in student loan refinancing with new rates as low as 2.49% fixed APR which can save you tens of thousands of dollars over the life of your loans. No application or origination fees and no prepayment penalties. Splash Financial is in all 50 states and is intensely focused on customer service. Splash Financial is also one of the few companies that offers a great medical resident and fellow refinance product. You can check your rate with Splash in just minutes.

  • Low interest rates – especially for graduate students
  • No application or origination fees. No prepayment penalties.
  • Co-signer release program - you can apply for a cosigner release form your loan after 12 months of on-time payments
  • Specialty product for doctors in training with low monthly payment

Click here to see more of Splash's offerings and to see how you can save money.

#2 View More Details

For every loan they fund, they contribute to the education of a child in need

  • Fixed rates: 2.83% - 6.74% APR
  • Variable rates: 1.99% - 6.84% APR
  • Minimum credit: 660
View More Details
Visit CommonBond View Loan Disclosure

CommonBond was founded in 2011 by three MBA graduates from the University of Pennsylvania’s Wharton School who wanted to help their peers escape from high-interest student loan debt. Its original focus was on grad students, but it has since expanded to cover undergrads as well.

Of all the companies we reviewed, CommonBond has some of the best customer service. The company prides itself on being easy to reach by email, phone, or live chat. It offers networking events, expert panels, insider newsletters, and even has a program help borrowers who lose their jobs to find new ones. CommonBond also makes you feel good about choosing to refinance with them by donating money to an education nonprofit for each loan they write.

CommonBond Student Loan Refinance review

  • Unemployment protections - If you lose your job or decide to go back to school, you can delay your payments for up to 24 months.
  • Social promise - For every loan they fund, they also contribute to the education of a child in need.
  • Hybrid loan option - Offerings include a 10-year hybrid loan with fixed interest for the first five years, and variable interest for the final five.
  • Referral bonus - For every friend you refer who refinances their loans with CommonBond, you’ll earn a $200 cash bonus.
  • Qualification - Borrowers must have graduated at least 2 years prior if they want to apply without a co-signer. And borrowers in 6 states – Idaho, Louisiana, Mississippi, Nevada, South Dakota, and Vermont – cannot currently refinance through CommonBond.

Get a personalized review of your refinancing options with CommonBond today.

#3 View More Details

SoFi is the leading student loan refinancing provider. 

  • Fixed rates: 2.49% - 6.94% APR
  • Variable rates: 2.25% - 6.59% APR
  • Minimum credit: 650
View More Details
Visit SoFi View Loan Disclosure

$30 billion+ in refinanced student loans. SoFi has some of the lowest interest rates and, unlike the other lenders we reviewed, there's no maximum on the amount you can finance. Some state restrictions may apply.

  • Serious savings: Save thousands of dollars thanks to flexible terms and low fixed or variable rates.
  • No hidden fees, no catch: No application or origination fees. No pre-payment penalties.
  • Fast, easy, and all online: Simple online application and access to live customer support 7 days a week.
  • Access to member benefits: SoFi members get career coaching, financial advice, and more—all at no cost.
  • 98% of surveyed members would recommend SoFi to a friend

Save thousands on your student loans and pay off your loans sooner. Find your rate.

#4 View More Details

Ability to apply for cosigner release after 24 consecutive payments. 

View More Details
Visit NelNetBank View Loan Disclosure

Give Your Life’s Journey a Jump-Start.

If you’re ready to put student loans in your rearview mirror, Nelnet Bank student loan refinancing offers low rates and flexible terms to help you start getting ahead.

  • VARIABLE RATES: 1.95% - 5.62% APR See Disclaimer
  • FIXED RATES: 2.48% - 6.62% APR See Disclaimer
  • AUTO DEBIT SAVINGS: We’ll knock .25% off of your interest rate when you enroll in auto debit. See Disclaimer
  • NO ORIGINATION FEES: No application, origination, or prepayment fees on Nelnet Bank loans.
  • HARDSHIP PROTECTION: Hardship forbearance helps protect against unexpected loss of income. See Disclaimer

See How Much You Can Save: Estimate your savings with a student loan refinance from Nelnet Bank.

#5 View More Details

Works with 300+ community lenders for higher approval chances

  • Fixed rates: 2.95% - 7.63% APR
  • Variable rates: 1.90% - 5.25% APR
  • Minimum credit: 660
View More Details
Visit LendKey View Loan Disclosure

Connecting student borrowers to a network of over 300 community lenders with low interest rates. By partnering with these lenders, LendKey is able to give consumers direct access to the best rates available from the most borrower friendly institutions. As the servicer of all loans obtained through its platform, you can rest easy knowing your personal information will be safe and that the best customer service team will be ready to answer your questions from application until your final payment.

LendKey Student Loan Refinance review

  • Lightning fast rate check - 2-minute rate check with no impact on your credit score
  • More lenders, more options - see the best offers from over 300+ community lenders for higher approval chances
  • Life of loan relationship - With LendKey, your personal information will never be sent or passed on to third parties. Their customer service team is with you from the moment you land on their website until you've completely repaid your loan.
  • Unmatched benefits- Community lenders put people over profits and offer unique benefits like cosigner release after 12 on-time payments, interest only repayment options to keep monthly payments low, the largest unemployment protection period in the market, and more.

Get a personalized quote from LendKey now.

#6 View More Details

Best for borrowers who want to customize their repayment schedule to pay off debt fast.

View More Details
Visit Earnest View Loan Disclosure

Using technology, data, and design to build affordable products, Earnest's lending products are built for a new generation seeking to reach life's milestones. The company understands every applicant's unique financial story to offer the lowest possible rates and radically flexible loan options for living life.

  • Commitment-free 2 minute rate check
  • Client Happiness can be reached via in app messaging, email, and phone 
  • No fees for origination, prepayment, or loan disbursement
  • Flexible terms let you pick your exact monthly payment or switch between fixed and variable rates
  • Skip a payment and make it up later
  • Online dashboard is designed to make it easy to apply for and manage your loan

Click here to apply with Earnest and to see how much you can save.

#7 View More Details

16 different loan term options – more flexibility to pay down your loan faster

  • Fixed rates: 3.24% - 5.54% APR
  • Variable rates: 3.34% - 5.69% APR
  • Minimum credit: 680
View More Details
Visit CollegeAve View Loan Disclosure

College Ave Student Loans offers major help and minor stress. We’ll help guide you through the process to find the right loan term and interest rate for you and the family budget.

  • Fast rate check: Get your new rate in 60 seconds 
  • Instant credit decision
  • Super flexible terms: 16 loan terms available from 5 to 20 years
  • No fees to apply

Click here to see more College Ave offerings and to start saving today! 


I reduced my student loan payment by $152 per month, by refinancing thru Nitro:

Save Money Now