What Is a Deferred Loan? A Look at How Deferment Works

Understanding Loan Deferment

Loan deferment is an agreement between a borrower and a lender that allows for a temporary pause in loan payments, providing relief during certain life events or financial challenges. This formal process requires lender approval, ensuring the loan remains in good standing and does not become delinquent. Deferment is not a cancellation of the debt; it is a temporary postponement of the repayment schedule.

During a deferment period, borrowers are not required to make principal or interest payments. Interest accrual during this pause depends on the loan type. For some loans, such as certain federal student loans, interest may not accrue, preventing the loan balance from increasing. For other loan types, interest continues to accumulate, impacting the total amount repaid. The primary purpose of deferment is to help borrowers avoid defaulting on their loans, protecting their credit standing during difficult times.

How Deferment Operates

Once a deferment is approved, the immediate effect is the temporary suspension of required loan payments. This payment halt can last from a few months up to several years, depending on the loan type and the specific agreement with the lender. Borrowers typically receive notification that their deferment request has been granted.

Interest accrual during deferment varies significantly by loan type. For certain federal student loans, such as Direct Subsidized Loans, the government may pay the interest that accrues, preventing the loan balance from growing. For unsubsidized federal student loans and many private loans, interest continues to accrue. If this accrued interest is not paid by the borrower, it can be added to the principal balance once the deferment ends, a process known as capitalization.

Deferment extends the overall repayment period of the loan. Since payments are paused, the time it takes to fully repay the loan is prolonged by the duration of the deferment. Obtaining deferment is not automatic; it requires the borrower to submit an application to their lender with documentation proving eligibility.

Common Reasons for Deferment

Borrowers seek loan deferment when facing circumstances that temporarily hinder their ability to make regular payments. One common reason is unemployment or significant economic hardship. Lenders often require proof of financial distress, such as eligibility for government benefits, to approve deferment under these conditions.

Another reason for deferment, particularly with student loans, is returning to school or continuing education. Many student loans offer in-school deferment for borrowers enrolled at least half-time in an eligible educational program. Military service is another common qualifying event, allowing active-duty personnel to pause payments during their service.

Deferment may be granted for disability or medical reasons. Some lenders may offer deferment in response to natural disasters or other unforeseen life events that impact a borrower’s financial stability.

Financial Considerations of Deferment

Deferment can have notable financial implications for the borrower, primarily concerning the total cost of the loan. When interest continues to accrue during a deferment period and is not paid, it can significantly increase the total amount paid over the loan’s lifetime.

Interest capitalization occurs when unpaid interest that accumulated during the deferment period is added to the loan’s principal balance. Once capitalized, this larger principal amount then begins to accrue interest, meaning future interest calculations are based on a higher sum. This process increases the overall borrowing cost and can result in higher monthly payments once repayment resumes.

Deferment extends the overall repayment period of the loan, as paused payments are added to the end of the loan term. This longer repayment period means more time for interest to accrue, further contributing to the total cost. While deferment provides temporary financial relief, it is generally considered a neutral event for a borrower’s credit score, as it is an agreed-upon arrangement with the lender.