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What Increases Your Total Loan Balance?

Matthew Levy Updated: September 3, 2023 • 4 min read

Your total loan balance can go up despite timely repayments due to several factors. A common culprit that increases your total loan balance is interest capitalization which is the time value of money. Let's understand how loan repayments work and how can you reduce your total loan cost.

What's Making Your Loan Balance Grow? Six Key Factors Explained

  1. Interest Capitalization: Unpaid interest gets added to your principal amount, increasing the total you owe.
    • Example: You borrowed $10,000 at a 5% interest rate. You don't pay for a year, so $500 in interest is added to your principal. Now you owe $10,500.
  2. Paying Less Than Required: Not meeting minimum payments can make your loan balance grow.
    • Example: Your monthly payment is $200, but you only pay $150. The remaining $50 gets added to your balance, and you'll pay interest on that too.
  3. Delays in Payments: Deferring payments or having a grace period can lead to more interest.
    • Example: You defer payments for 6 months after graduation. Interest accrues during this time, increasing your loan balance.
  4. Income-Driven Plans: Payments based on income might not cover the interest, causing your balance to rise.
    • Example: You're on an income-driven plan paying $100 a month, but your interest is $150 a month. The extra $50 gets added to your balance.
  5. Fees and Penalties: Hidden fees for late or early payments can add up.
    • Example: You miss a payment and get a $25 late fee. That fee is added to your loan balance, and you pay interest on it.
  6. Variable Interest Rates: Fluctuating rates can increase your payments and total balance.
    • Example: Your loan starts at a 4% interest rate. It jumps to 6%, increasing your monthly payments and making your total loan balance grow faster.

Each of these factors can sneak up on you and make your loan balance bigger than you initially thought. Keep an eye on them to manage your debt effectively.

How to Lower Your Loan Balance

Looking at your inflated loan balance after years of repayment, if you are wondering what increases your total loan balance, then you are not alone. According to a report by Moody, over 49% of federal student loan borrowers owe more money than they borrowed five years after regular repayments. Let's look at why interest is capitalized and how loan balances increase over time.

  • Long-Term Loans - Borrowers with long-term repayment plans (more than ten years) may see their loan balance increase since the repayments are insufficient to cover the accrued interest.
  • Adjustable Interest Rates - Variable interest rate loans are linked to indexes like the London Interbank Offered Rate (LIBOR) or Secured Overnight Financing Rate (SOFR). If the interest rate increases and you don't increase your loan payments, your loan balance may go up.
  • Income - Driven Repayment Plans- You can decrease your monthly loan payments to as low as zero during difficult times with an Income-Driven Repayment Plan. However, lenders will still charge you the interest during this time, increasing your loan balance.
  • Forbearance/Deferment/Grace Period - Your loan balance may go up if you have availed of forbearance or deferment on your loan. Lenders may also charge interest during grace periods during which you are not required to make loan payments.

SEE: How to Use a 50/30/20 Budget Rule Calculator >>

How to Avoid Paying Capitalized Interest

Once you have understood how interest capitalization works, it's time to know how to avoid paying capitalized interest. Here are some ways to reduce your total loan balance-

  • Increase Your Loan Payments - You can make extra payments to your loan account to lower the accrued interest added to the principal amount. You can regularly pay more than your EMI or make a bulk payment at any time to reduce your overall principal amount.  Make sure the lender does not charge a prepayment penalty for early repayments.
  • Refinance/Consolidation - You can choose to refinance or consolidate multiple loans to a more suitable repayment program or a lower interest loan. A REPAYE Plan may forgive 50% of the accrued interest each month. Check the detailed loan repayment schedule and projected outstanding balance before signing the new loan document. One important factor that affects interest capitalization is the nature of compounding-whether it's daily, weekly, monthly, or annually.
  • Government Programs - Due to the COVID pandemic, the US government introduced various programs under the Coronavirus Aid, Relief, and Economic Security (CARES) Act and the American Rescue Plan Act to help borrowers with zero interest forbearance, emergency credit, debt consolidations, etc. If you have the resources, you can take this opportunity to reduce your total loan balance.

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How Does Interest Capitalization Affect a Loan?

The principal of your loan is increased when unpaid interest is added to it. The increased amount of interest makes your loan larger, so you end up paying interest on this new amount. It can cause your monthly payments to go up and even take longer to repay the loan as a result. If, for instance, you don't pay enough interest on a $40,000 loan, then the unpaid interest gets added to the $40,000, making your future payments higher.


You can benefit financially from understanding how lenders charge you for a loan and what increases the total loan balance. Your total loan balance may increase in fixed-term loans for the first few years even if you make regular payments due to interest capitalization. Your loan may also accrue interest if you avail forbearance or miss payments. You can offset the effects of interest capitalization by making extra payments or refinancing your loan to more reasonable terms. You can also take help from government programs to lower your total loan balance.



Why does my loan amount keep increasing?

In an ideal repayment scenario, the interest portion is regularly paid off as well as a portion of the principal amount. This may increase the loan payment amount, but interest is not capitalized (added to the principal). If the accrued interest is not immediately repaid, it gets added to the principal amount, and you have to pay ‘interest on interest’. This is known as interest capitalization which increases your total loan balance.

Does accrual increase loan balance?

Interest is accrued on the principal amount from the time a loan is disbursed. It is usually charged to your total loan balance at the end of the month. If you pay off the interest as soon as the lender charges it along with a portion of the principal amount, the interest is not accrued to your principal and your total loan balance will decrease. 

What is a total loan balance?

The total loan balance at any point in time is the unpaid loan amount that if paid will clear all dues. It includes the current outstanding principal, accrued interest, and additional fees (if any). Lenders charge interest to your loan account balance at the end of each month. Regular loan payments or any lump sum deposit decreases your total loan balance. 

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Written by Matthew Levy

Matthew is a freelance financial copywriter with 14+ years in financial services. He holds a Bachelor of Science degree in Economics with business and finance options and is a CFA Charterholder. He is from Vancouver, Canada, but writes from all over the world.