Hidden Costs of Federal Direct Unsubsidized Student Loans

Direct Unsubsidized Loans are a popular way for undergraduate and graduate students to borrow for school. These federal loans don't require a credit check or proof of income, which makes them easier to qualify for. In fact, nearly half of all student loans taken out in the 2023-24 school year were unsubsidized federal loans, according to the College Board.

While these loans offer accessible funding, they come with hidden costs that can add up over time. Understanding these expenses can help you plan ahead and avoid surprises when it's time to repay. Here's what you need to know.

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What are federal Direct Unsubsidized Loans?

Direct Unsubsidized Loans are federal student loans available to most undergraduate and graduate students, regardless of financial need. They come with fixed interest rates set by law, which change each year. For loans first disbursed between July 1, 2024, and July 1, 2025, the interest rate is 6.53% for undergraduates and 8.08% for graduate or professional students.

These loans offer key federal benefits, including access to income-driven repayment plans, loan forgiveness programs, and options to pause payments when needed. However, unlike Direct Subsidized Loans, interest on Direct Unsubsidized Loans starts accruing immediately. If you don't pay the interest while in school, it gets added to your loan balance when repayment begins. This causes you to pay interest on interest, which makes your loan more expensive over time.

Hidden costs of federal Direct Unsubsidized Loans

Direct Unsubsidized Loans come with costs that aren't always obvious but can significantly impact repayment. These costs include the following:

Interest accrues while in school and during deferment

Interest starts adding up as soon as your loan is disbursed. Even though you don't have to make payments while you're in school or during the six-month grace period after graduation, interest continues to accrue.

Direct Loans are “daily interest loans,” and a daily interest formula determines the amount of interest that accrues each day. Since it could be years between the time you first borrow and the time you begin repayment, a substantial amount of interest could build up while you're in school. The daily interest formula looks like this:

Interest Amount = (Outstanding Principal Balance × Interest Rate Factor) × Number of Days Since Last Payment

Note that the interest rate factor is calculated by dividing your loan's interest rate by the number of days in the year.

Interest capitalization increases your total loan balance

Unpaid interest on Direct Unsubsidized Loans doesn't just sit there. It gets added to your loan balance when repayment begins. This is called capitalization, and it increases the amount you owe and can make your loan more expensive over time.

If you don't make interest payments while in school, that interest will be added to your principal when you enter repayment. The same happens if you pause payments later through deferment or forbearance. While these options provide temporary relief, interest continues to build, and once payments resume, your balance will be higher than before.

Capitalization can also happen if you're on the Income-Based Repayment (IBR) Plan and your payments don't cover all the interest. If you later leave the plan, any unpaid interest is added to your balance, increasing the total cost of your loan.

Loan origination fees are deducted before disbursement

The Department of Education charges an origination fee on Direct Unsubsidized Loans, which is deducted before your loan funds are sent to your school.

For loans disbursed between Oct. 1, 2020, and Oct. 1, 2025, the origination fee is 1.057%. If you borrowed between Oct. 1, 2019, and Oct. 1, 2020, the fee was 1.059%.

Since this fee is taken out before disbursement, you'll receive less money than you borrowed. However, you're still responsible for repaying the full loan amount, including the portion withheld for fees.

Understanding the long-term impact of unsubsidized loans

To illustrate the long-term costs of Direct Unsubsidized Loans, let's take a look at an example.

Let's say you're a freshman and you take out $5,500 in Direct Unsubsidized Loans in the 2025-26 school year. Your interest rate would be 6.53%, and your origination fee would be 1.057%. After the fee is deducted, you'd receive $5,441.87.

Since payments aren't required while you're in school, interest would accrue for four years, plus the six-month grace period after graduation — about 54 months in total. By the time you enter repayment, $1,617 in interest would be added to your balance, bringing your total debt to $7,117.

This larger balance increases both your monthly payments and the total amount you'll repay:

• A $5,500 loan repaid over 10 years would have monthly payments of $63, with a total repayment cost of $7,504.
• A $7,117 loan repaid over 10 years would have monthly payments of $81, with a total repayment cost of $9,710.

These extra costs mean you'll spend thousands more on repayment than you originally borrowed.

How to minimize costs on unsubsidized loans

One of the most effective strategies to reduce unsubsidized loan costs is to make interest payments while you're in school.

“Making payments helps keep interest accrual down, so loan payments in the future are smaller,” explains Jack Wang, a wealth adviser who specializes in college financial aid at Innovative Advisory Group.

In-school payments can also provide other benefits. Wang notes that paying interest while in school helps build good financial habits for the future. Additionally, “making payments on a loan can help increase your credit score,” says Domenick D'Andrea, a financial adviser and founder of DanDarah Wealth Management.

If in-school payments aren't an option, consider making a lump-sum payment before the accrued interest capitalizes.

Choosing a repayment plan that minimizes long-term costs can also help. The Standard Repayment Plan, for example, reduces total interest expenses compared to extended or income-driven plans that lower monthly payments but increase overall repayment costs.

Alternatives to federal unsubsidized loans

Before taking out unsubsidized loans, consider other options that can reduce your overall borrowing costs. Here are some alternatives to explore:

• Max out Direct Subsidized Loans first: If you're an undergraduate student with financial need, you can qualify for subsidized loans. These loans don't accrue interest while you're in school or during deferment, which keeps your balance from growing.
• Apply for scholarships and grants: Unlike loans, scholarships and grants don't need to be repaid. Search for opportunities through your school, employers, and organizations related to your field of study. Every dollar in free aid reduces the amount you need to borrow.
• Look into work-study programs: Completing the FAFSA may qualify you for federal work-study, which allows you to earn money while attending school. Even if you don't qualify, finding a part-time job can help cover expenses and reduce the need for loans.
• Check for employer tuition assistance: Some companies offer tuition reimbursement or assistance programs. If you're already working, ask your employer if they provide education benefits.