If you're looking at getting a car loan, you may come across some that offer a balloon or residual payment option. These loans can help reduce your repayments but require you to make a large lump sum payment at the end of the loan term.
While a balloon payment can help save you money, it's important to understand how they work and how they differ to residual payments before you take on a loan that offers them as a feature.
A balloon payment is a single, lump sum payment that is made at the end of a loan term to cover the remaining cost of the loan. It is commonly found as part of dealer finance, but is also offered on some car loans. The balloon payment amount is only payable at the end of the loan, meaning it can help reduce the size of your regular repayments.
Balloon payments are suited to people who want to purchase a new vehicle or upgrade their existing vehicle affordably. Balloon payments allow people to maintain a healthier cash flow by keeping their repayments lower.
If you can't afford a balloon payment, you have 2 options:
Both a residual and balloon payment refer to the amount left over at the end of a loan term and which needs to be paid out at that time. The key difference lies in how these amounts are determined.
A balloon payment is set in an agreement by the borrower and the lender in order to lower the ongoing monthly repayments and does not take depreciation into account.
A residual payment is forecast based on how much the asset will be worth once the loan term finishes, taking into account depreciation.
Before opting for a balloon payment at the end of your term, ask yourself the following:
John wants to borrow $18,000 for a car, with a loan term of 5 years. While this would normally mean he makes monthly payments of $300, plus interest, he chooses to include a balloon payment of $5,000. This means he only makes repayments on the remaining $13,000 (as well as interest on the entire loan amount), which works out to be $216.67 each month, plus interest.
Many dealerships make their money by refinancing balloon payments. If you're coming to the end of your loan term and unable to pay your balloon payment outright, refinancing is an option to consider.
You should consider this as a new credit product and give it the same consideration you would any other loan. Remember that you don’t need to refinance with the same lender, so you should compare your refinancing options before you apply.
A balloon payment is a fixed percentage of the loan, not of the car's actual worth. Therefore, the balloon payment will not impact the value of the car in any way.
However, if you do sell the car before the balloon payment is due, you will still have to make the balloon repayment, and therefore won't be able to retain the funds from the sale of the car.
Whether you are able to repay a balloon payment early or not will depend on your lender and the loan product in question. Some lenders will allow for penalty-free additional repayments and/or early repayment. However, some lenders may charge a fee for paying off a balloon payment early. To check the policies of any of the lenders featured on this page, simply click on the loan product of your choice to visit the lender's review page.
If you're considering repaying your balloon payment early, it may also be worth considering weighing up how much money you will save on loan interest versus how much money you could gain from investing the money in question until the balloon payment is due. On the other hand, if you can earn a higher rate than the rate on the loan, it is better to invest the money and wait until the balloon is due. If the loan has a higher interest rate, you save money by paying off the balloon early.
Should you refinance or pay out your novated lease balloon payment?
Car loans that offer balloon payments can be a good option to consider as they help keep your ongoing repayments low. However, as they leave you with a large payment to deal with at the end of your term, it’s important you understand everything about this financing option before you apply.
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Is a car dealer liable to disclose a Balloon payment on the loan agreement document, during signing a Commercial loan & mortgage agreement?
Can the dealer charge Balloon payment at the end of the loan period if it has not been agreed upon or shown on the loan document?
Thank you.
Hi Gopinath,
All fees, interest and payments, including balloon payments, need to be properly disclosed to you before you sign on to a loan. If the balloon payment wasn’t in your loan contract then you should get in contact with your car dealer to discuss this. If the issue isn’t resolved (that is, they are still requiring you pay the balloon payment) then you may want to lodge a dispute with the Credit and Investments Ombudsmen. You’re able to lodge a complaint online by visiting its website.
Hope this helps,
Elizabeth