What is a Balloon Payment?
It is essentially just a large payment that must be paid at the very end of a balloon loan. A balloon loan can be a car loan or even a mortgage. This type of loan is usually semi-short term, and only part of the principle of the loan is amortized over the length of the term. When the end of the loan term comes up, you will need to take care of the remaining balance by making one final payment.
The "balloon" part of this term refers to the size of the last payment you make on the loan, as it is typically quite large, especially when compared to regular payments. You will find that these payments are usually double the size of the payments you've made on the loan in the past, though they can be even larger than that. Balloon payments have become increasingly common with commercial loans, though they are still relevant to consumer loans.
What type of loan does it apply to?
Although balloon payments can be made on many different types of loans, they are probably most common with auto loans. If you are interested in buying a new car, this is certainly an option that you should at least consider. These days lots of people decide to go with a balloon loan because of all the benefits it has to offer.
Minimizing the size of your Payments
One of the best reasons to choose a balloon loan is so you can keep the size of your average payment as low as possible. While it's true that you will need to make a very large payment at the end of the loan term, most of your payments will be quite small and manageable. A lot of people who need a new car but don't have a lot of money for a down payment opt for a balloon loan.
It is crucial that you take the time to plan for your balloon payment because it is going to be considerably larger than the rest of the payments you make on your loan. You will want to make a point of putting a little bit of money aside each month towards your final payment so you will have no problem making it when the time comes. While you may be able to get your loan extended at the very end of the term, there aren't going to be any guarantees. The best possible thing you can do is to save up so you know you'll have enough to cover your last payment.
If you do not have enough money at the end of the loan term to make your balloon payment, things will get very bad very quickly for you and the lender you borrowed from. Those who get a car with a balloon loan and cannot pay it back may get it repossessed, which is by far the worst case scenario. You might be able to buy your car back, but you will still need to pay the principal of the loan.
Lower your Chance of Repossession
Another great thing about a balloon loan is that it will significantly lower your chances of getting your car repossessed. Since a vast majority of your loan payments are going to be smaller than normal, you will most likely be able to pay off the loan without any issues. The last thing you want is to get your vehicle repossessed, so you might want to look into the balloon payment option before making a final decision.
Comparing Balloon Loans
You will want to make a point of comparing a balloon loan against other types of loans so you can make the best overall choice to match your needs. You will find that every balloon payment loan has a final number, which is the amount that you will make on your very last payment. It is important that you know what this number is ahead of time before making a final commitment.
You should also make sure that you can afford the monthly payment amount, because otherwise you are putting yourself at great risk for repossession. While it's true that balloon payment loans tend to have very small payments, you'll still need to be certain that you can cover each one without struggling financially.
Compare Interest Rates
It's always a good idea to compare interest rates so you will know how each loan is going to increase or decrease over time. The first option that you have is a loan with a lower interest rate that results in a low initial payment that increases over time with a higher final payment. The second option is that you can start out with a higher interest rate that means a larger initial payment but a lower end payment. The more time you take to compare rates and do this type of research, the better your chances are going to be of getting the best possible deal on the loan you need.
A lot of car dealerships make a significant amount of money by refinancing balloon payments. If you find that you won't be able to make your balloon payment at the end of the loan term, you will definitely want to consider refinancing. You will want to keep in mind that refinancing means having another loan to deal with, which can be a positive or negative thing depending on your particular financial situation. You certainly don't have to refinance with the same lender, and in fact it's a very good idea to compare the various refinancing options you have before filling out a single application.
The Bottom Line
A balloon payment loan can be a great way to make paying back the money you owe a lot easier, but you will need to plan for that big final payment. Lots of people who take out car loans and other types of loans choose to make a balloon payment because of the decreased long-term financial burden.