Balloon loans are loans that are set up for one term, but are calculated over another term. For example, you as the borrower might take out a five-year balloon loan. However, it is calculated over 15 years. This means the monthly payments are going to be very low. At the end of the five-year term, however, the borrower has to pay off the final balance in one large "balloon" payment.
If you are looking for a loan that allows you to borrow a large amount of money over a short amount of time but with low monthly payments, a balloon loan will fill that need. Balloon loans can be used to reduce monthly payments while still borrowing the amount of money you require.
Lower Payments
The main advantage of a balloon loan is that for the loan term you get extremely low monthly payments. If you are looking to borrow a large amount of money but cannot afford large monthly payments, then a balloon loan might be worthwhile investigating. With a balloon loan you can borrow large amounts of money with the advantage of low monthly payments. However, you don't have the extra costs of interest on a loan that lasts 10 or 15 years.
Typical situations might be trying to come up with a car payment, arranging a car lease payments, or coming up with money to cover down payment and closing costs on a home. Balloon loans are extremely dangerous. If you the borrower cannot come up with funds to pay the balloon when it comes due, the lender can foreclose on any property held as security. An auto with a low depreciation rate over the short term of the balloon would be a prime catch for the lender to repossess.
Affording The Balloon
Although lower payments are a great idea, you need to remember about the balloon payment at the end of the loan. If you borrow a large amount of money, you will likely have to pay a steep amount at the end of the term. Although it might seem enticing now to have low payments, it might be very different when you owe $15,000 or more in one payment. As a borrower you must think carefully before applying for a balloon loan about your ability to afford such a large final payment. Many lenders will scrutinize a loan application very carefully before underwriting a balloon loan
Who Should Consider Balloon Loans?
Balloon loans are good for people who know their income or monetary situation will greatly improve within the next few years. If you cannot afford large payments presently but know that in 2 or 3 years you will have a lot more money, then a balloon loan could work well for you. However, you do need to be fairly certain that your situation really will improve. It is a crap shoot. As you see it when rolling the dice, you will make your point, As the lender sees it, there will be a sleek Mercedes sitting in his lot in five years.
Refinancing
If you come to the end of the loan term and find that you are unable to afford the balloon payment, you might be able to renegotiate the loan terms and pay off the rest of the loan in the normal way. Although terms for this will vary, refinancing at the end of a balloon loan is often possible. However, this will end up costing you more money, so if you are unsure about your ability to afford the balloon loan go for a regular loan instead. Indeed, this is a situation where you must weigh the risks versus the rewards.
Repeating what I've said earlier: A balloon loan is a crap shoot. Make sure you have good dice before you come to the gaming table.
