Balloon Payment
A balloon payment is the sum due at the end of a short-term mortgage loan that does not pay off the entire balance.
For instance, say you borrow $50,000. For this type of loan you would pay a set amount, say, $5,000 in 7 years. At the end of the 7 years, the rest of the balance is due. In this case, $45,000. That "rest" (45,000) is the balloon.
Balloon payments can be designed a couple different ways. Some balloon mortgages offer a reset option at the end of the term (7 years in our example). The loan can be rewritten for the balance that remains. The other option is the remainder of the loan being due all at once at the end of the 7 years in a "balloon" payment.
As with anything else, these loans have their advantages and disadvantages. The advantage is the low interest rate they often carry. The disadvantage, though, is that it can be hard to predict your financial future 7 years down the line. If at the end of the loan you find yourself unable to procure another loan, you could lose the house you've been paying on all this time. You definitely want to proceed with foresight, if not caution.
Related or Semi-related Video
Finance: What is Balloon Interest, or a ...197 Views
Finance a la shmoop what is balloon interest or a balloon payment. All right
people you blow and blow and blow and blow and then one day it pops. Well [Balloon with loan written on it explodes]
that's kind of what a balloon loan looks like in most cases common loans are paid [House with a sold sign]
down as they go like a home mortgage on you know your brand-new home there
Well it starts out as 400 grand payable over 30 years and then little by little
grinding away year after year after year the loan is paid down and the final [Years going by and the principal remaining reducing]
payment is like well just a few grand and you're the proud owner of a 30-year
old shack it's become one after 30 years... Well were this a balloon payment style [Picture of a wooden old house]
of loan well you might have just paid interest on that four hundred grand for
twenty nine point nine years and then that last payment would be the four
hundred grand principle you'd borrowed. Huge or as a famous real estate man once
said huge, that could be one month's interest on the four hundred grand plus [Donald Trump appears]
four hundred grand well that last balloon payment will have
popped when you've paid off your house. Well the same structure of debt lives in [Guy pops the balloon with a pin]
the world of zero coupon bonds and t-bills as well where you as an investor
buy a notional par value of say a grand, at a discount meaning you're buying that
thousand dollars at a discount... meaning you pay six hundred forty-two
bucks for a payment of a thousand dollars in six years with no payments of
interest or pay down of principal in between. That final loan payoff is the [Hot air balloons in the background]
balloon oh happy day and it isn't even your birthday [Guy in a suit dancing with balloons and confetti falling]
Up Next
What is a zero coupon bond? Zero coupon bonds are an interesting investment because they don’t pay any interest. They are only desirable because...
With a reverse mortgage, payments go in the opposite direction of a normal mortgage, where you pledge your home as an asset, and receive $ each month.