A balloon loan is a type of loan that does not fulfill the cost of the product through the regular installments. It is usually sold as a short term loan which cannot amortize the complete value of the principal amount of the loan. Hence, for the moneylenders to get their full payment, you are required to pay a lump sum amount at the end of the payment term which is called a Balloon Payment.
A Balloon Payment is named such because it signifies the end payment is a lump sum and is large like an inflated balloon. The balloon payment at the end of a Balloon Loan can be almost double the cost of the monthly installments of the Balloon Loan. The balloon payment, thus, can be as high as a 100,000 USD or more in many cases. This makes the repayment of the loan a pain for the people.
How Is A Balloon Payment Mortgage Different From Other Mortgages?
If you go for a regular mortgage, then you have to pay a fixed amount for a long period of time, say, thirty years or so. When the time period of thirty years gets complete and you have paid the regular mortgages, then you have to pay nothing at the end of the term and you own the product that you got the mortgage for. These types of mortgages distribute the principal amount into equal installments which is known as amortization. When the regularly distributed installments are supposed to cover the whole principal amount then the loan is called a completely amortized loan.
A balloon loan is quite different from regular loans as instead of the fact that a balloon payment loan has a fixed time period for the repayment of the loan, the individual installments do not completely cover the principle amount i.e. balloon payment mortgages are not completely amortized unlike regular mortgages. Thus, to pay off the loan completely at the end of the time period, the buyer has to pay a lump sum to the lender which can sometimes be as big as the principal amount itself. The balloon payment however, is dependent on the terms of the loan.
Disadvantages Of Balloon Payment Mortgages
Balloon payment mortgages cannot be afforded by most people unless they get a large amount of money from some source at the end of their time period of the balloon loan. Thus, a lot of people are left with only one option that is refinancing the loan. However, if in the terms of the balloon mortgage, the lender has included a reset clause then the buyers can then get a new balloon mortgage for the balloon amount at the end of the previous mortgage. But if one chooses to refinance the balloon mortgage or to reset the balloon mortgage, their property will suffer going into foreclosure.
Pros And Cons Of A Balloon Payment Mortgage
Why To Opt For A Balloon Mortgage?
Most of the public avoid going for a balloon payment mortgage as the terms of a balloon payment mortgage seem dangerous as they are. However, balloon payment mortgages have advantages too. They offer less rates of interest for the properties when compared to regular mortgages and is also preferred by people who like to change houses quite often.
Advantages of Balloon Payment Mortgage
- Balloon Payment Mortgages offer lower rates of interest when compared to regular mortgages which last for longer periods like thirty years
- They are also easier to get accepted in when compared to regular mortgages.
- Balloon Payment Mortgages can be converted to a regular mortgage which is completely amortized if the terms permit conversion.
Disadvantages of a Balloon Payment Mortgage
- You have to pay a lump sum of money at the end of the loan period or consider refinancing of the loan if the loan is not convertible to a regular mortgage.
- Balloon Payment Mortgages are not available at most lenders due to their instability.
- Sometimes, refinancing is a better option than resetting the balloon payment which can cause foreclosure.
- Interest rates of a Balloon Payment Mortgage can increase during the time period of the loan depending on the terms of the loan.