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What is Interest Capitalization on a Student Loan?

Have you looked at your federal student loan statements lately? Do they show a significant jump in the principal balance? Are you wondering what the heck is going on? Well, in short, this is probably because of something called interest capitalization. This is where accumulated interest is added to the principal of a loan, often increasing it significantly.

Why Did the Interest Capitalize?

Why did this happen? Well, you most likely just came out of either a deferment or forbearance on the loan, and the statement is from your servicer telling you that it is time to start making payments again. If you are in a forbearance, or a deferment with an unsubsidized loan, a federal student loan or a New Jersey CLASS loan will continue to accumulate interest during this period of time and then capitalize it once it is over.

How It Can Hurt You

In addition to increasing the amount you have to pay back, it also increases the amount of interest that accrues per month because even though the interest rate didn’t go up, the balance it is applied to did. This is why I do not recommend a deferment or a forbearance as a solution to any problems you may have with making the payments. It is much better to get into an affordable plan.

If you have a private loan, you should read the language in the promissory note carefully to see if it allows the bank to capitalize interest. The note must say this in order for the bank to do it. Do not just assume that this is normal.

Interest capitalization is not something that you need worry about if you do not go into a deferment or forbearance (or worse, default on the loan). However, if you are struggling with making the payment, you should try to get into a more affordable payment plan. It s the better move.

So What Do I Do?



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Steven J. Richardson