A significant dislocation reduction is achieved in an AlGaN layer grown on an AlN buffer by introducing a thin GaN interlayer. The mechanisms for the dislocation reduction are explored by transmission electron microscopy, energy-dispersive x-ray spectroscopy, atomic force microscopy, and micro-Raman spectroscopy. The GaN interlayer grown on the AlN takes the form of platelets. The mechanisms of dislocation reduction in the platelet area and the area between the platelets are different. In the GaN platelets, due to the large misfit strain, the threading dislocations (TDs) in the AlN layer migrate into the interface and annihilate with each other. However, the GaN between the platelets is highly strained so that a higher density of TDs from AlN is incorporated into the upper layer. The coalescing of the platelets induced by the AlGaN growth makes the TDs in the areas between the platelets assemble and annihilate, resulting in additional dislocation reduction.