How it works

When you stop or reduce loan payments via forbearance or deferment, interest usually continues to accrue unless a program specifically suspends it. At the end of the relief period many lenders or loan servicers add (capitalize) any unpaid interest to the loan’s principal balance. That new, larger principal then accrues interest going forward, increasing the total cost of the loan and often the monthly payment.

Example calculation

  • Original principal: $10,000
  • Accrued interest during forbearance: $1,000
  • New principal after capitalization: $11,000
  • Future interest is based on $11,000 (not $10,000), so you pay interest on that additional $1,000 as well.

Who is affected

  • Federal student loans: Rules vary. Subsidized federal student loans may not accrue interest during certain deferments; unsubsidized federal loans generally do accrue interest during both forbearance and deferment. Check guidance from Federal Student Aid for your specific loan type (https://studentaid.gov).
  • Private student loans and private consumer loans: Policies depend on the lender; most private loans continue to accrue interest and may capitalize unpaid interest per the loan agreement.
  • Mortgages and auto loans: Lender policies differ. Many mortgage servicers will capitalize interest when a forbearance ends unless you pay the accrued interest as it accrues or negotiate otherwise.

Authoritative sources and verification

Practical strategies to limit capitalization (what I recommend in practice)

  1. Pay interest while in forbearance if you can: Even small, regular interest payments prevent capitalization and reduce long-term cost.
  2. Ask the servicer how interest will be handled: Get the policy in writing—when capitalization happens and whether you can pay interest separately.
  3. Choose targeted programs: For student loans, explore deferments that suspend interest for subsidized loans or income-driven repayment options that can limit payment shock. See our guide on student loan forbearance trade-offs for details (Student Loan Forbearance: Short-Term Relief and Long-Term Costs: https://finhelp.io/glossary/student-loan-forbearance-short-term-relief-and-long-term-costs/).
  4. Consider refinancing where appropriate: If capitalization creates a much larger balance and you have strong credit, refinancing to a lower rate can reduce long-term interest—but beware of losing federal protections for federal student loans.
  5. Negotiate capitalization timing: Some servicers allow capitalization only at specific milestones or allow interest to be added to a separate balance — get this clarified in writing.

Common misconceptions

  • Myth: “Forbearance or deferment means no interest accrues.” Not true for most loans—unless the program explicitly suspends interest.
  • Myth: “Capitalized interest is a one-time small hit.” Because capitalized interest itself earns interest, even modest amounts can materially raise total cost over years.

Real-world impact (brief case)

A borrower I worked with chose a six-month mortgage forbearance and did not pay the accumulating interest. When the servicer capitalized $2,000 of unpaid interest, the monthly payment rose by about 12% and the loan’s amortization length and total interest cost increased noticeably.

Tax, forgiveness, and reporting notes

  • Tax: Capitalized interest is not an immediate tax deduction. Interest you actually pay may be deductible under the student loan interest deduction rules; consult IRS guidance or a tax advisor (https://www.irs.gov).
  • Forgiveness/treatment: For federal student loans, periods in forbearance may or may not count toward forgiveness programs (e.g., Public Service Loan Forgiveness). Confirm with your servicer and the Department of Education rules (https://studentaid.gov).

Next steps

  • Contact your servicer and request a clear explanation of how interest will be handled during the relief period.
  • Run simple scenarios: estimate accrued interest for the relief period and calculate the post-capitalization payment and total interest.
  • If you need tailored advice, consult a certified financial planner or student loan counselor.

Internal resources

Professional disclaimer

This article is educational and not personalized financial or tax advice. For decisions about your specific loans, consult your loan servicer, a certified financial planner, or a tax professional.