Balloon Loans
A balloon actually looks similar to a 30 year fixed rate mortgage. The payments are calculated the same way. The difference is that after a specified period, usually 5 or 7 years, the balloon or outstanding balance has to be paid in full.
Balloon Loan Example
On a $200,000 loan at 6%, the payment on a 7 year balloon (and a fixed rate mortgage) is about $1200. On the balloon, the balance (around $180,000) has to be paid in full after 7 years.
Unless the buyer has come into a lot of money, if he’s still in the home, he has to pay the balloon or refinance it.
Balloon Loan Advantages
Advantages of this loan instrument include:
- Very low initial interest payments- This may mean the difference between qualifying or not qualifying for a loan.
- Capital Use- There is very little capital outlay during the life of the loan. This means capital can be used for other purposes.
Balloon Loan Disadvantage
Because interim payments are not being made, the buyer needs to be very self-disciplined and ready make that balloon payment when it falls due.
It’s for that reason that balloon loans are most often used when refinancing or a major cash flow occurrence is anticipated.
Steve Wyrostek -HomeLoans.org Expert A 20 year plus veteran of the insurance industry, Steve managed departments in the personal and commercial lines areas of major insurers. He’s familiar with how insurance—ranging from boat to workers compensation—works.
