When applying for a car loan, you will see the term ‘balloon payment’ floating around more often than not. It is defined as a lump sum payment payable to the lender at the end of a loan term. The specifics of the balloon payment depend on your agreement with the lender.
If you want to know more about balloon payments, we have you covered. In this article, we tell you everything you need to know about balloon payments and if they are the right choice for you.
What is a balloon payment?
A balloon payment, also called residual value for car leases, is the amount paid to the lender once all repayments have been made on the loan. This is an optional payment scheme that you can include in your loan agreement.
With a balloon payment, you pay part of the principal loan at the end of the loan term instead of bundling that with your regular repayments.Theballoon payment amount will be deducted from the principal loan amount and the difference is where your regular monthly repayment will be computed.
Breaking down balloon payments
So, how does a balloon payment work for car loans? Let’s crunch the numbers. For example, you were approved for a $30,000 loan payable in 5 years with 6.97% interest and a $9,000 (30%) balloon payment. Your monthly repayments will only be $485.55. The same car loan without the balloon payment at the end of the term will have yourmonthly repayments at $611.42. That is a significant difference in monthly repayments.
What you save on your monthly payments, you may have to make up for—and then some—when you pay the lump sum at the end of the loan term. With the example above, the total amount of your car loan will be $38,133 with the balloon payment. If you opt for a car loan without the balloon payment, your car loan will only cost $36,685.2.
When you choose a car loan with a balloon payment, you need to settle the final outstanding payment otherwise you may fall into a loan default, risking your lender repossessing your car. The loan term can be adjusted depending on your agreement with your lender. It is best to discuss the finer details of your loan’s repayment scheme with the balloon payment with your lender to get a clear picture.
Advantages and disadvantages of balloon payments
Balloon payments come with some pros and cons. Before choosing to take out a loan with a balloon payment, make sure you have all the facts. Keep these advantages and disadvantages in mind when you’re applying for a loan:
Pros of a balloon payment
- It can lower your monthly payments. A balloon payment can significantly lower your regular car loan repayments. This can help save you money in the short term as you’re paying less monthly.
- You can purchase the car you want. Because the regular repayments are lessened, borrowers can more easily buy the car they have their sights on which they couldn’t afford otherwise.
- It’s useful for car trade-ins. If you are planning on continuously upgrading your car, a balloon payment option could be a good idea. You can use the trade-in value of the vehicle to pay the final lump sum.
Drawbacks of a balloon payment
- It has a higher overall cost. As you can see from the example earlier, a balloon payment is likely going to cost you more compared to a typicalloan without one.
- There might be uncertainty around your future financial situation. There is a possibility that you will not be able to make your balloon payment if your financial circumstances change.
Is a balloon payment right for you?
The short answer is: it depends on your situation. For borrowers who are using the car for their small business, a car loan with a balloon payment can be beneficial. It would allow small businesses to free up cash flow and can manage the lump sum payment at the end of the loan. For borrowers with multiple loans or debts at a time, freeing up monthly cash flow can also be beneficial.
If you are planning on trading in your car, then a balloon payment may be a good idea because you’ll have lower repayments, and you can use the trade-in amount to pay off the lump sum. It is ideal if the resale value of your car is higher or equal to the balloon payment.
Use our handy car loan calculator to help you figure out if a balloon payment option is right for you. Simply enter the necessary details and your desired balloon amount percentage to see what your monthly repayments could look like.
Alternatives to balloon payments
A balloon payment option isn’t the only way to get a car loan. There are plenty of alternatives out there you can consider:
- Traditional car loans with equal payments – This is your typical loan where you pay the interest rate and the principal amount forthe duration of the loan term. After your final loan repayment, you will not have to pay an additional lump sum.
- Leasing a car – When you lease a car, you are effectively ‘renting’ it for a set amount of time. After the lease period is over, you can continue to lease the car, pay for the residual value, or lease another vehicle. Unlike the balloon payment on car loans, you’re not obligated to pay the residual value of the car since you are only leasing it.
- Personal loans – A personal loan is like a traditional car loan in terms of payment scheme. With a personal loan, you can buy a car and use any funds left over for other expenses.
Talk to Aussie Car Loans
A balloon payment can be very beneficial but can also cost you more money in the long run. Now you have got a better handle on what it is, you can make an informed decision for your car loan.
If you want to know which type of car loan repayment scheme is best for you, talk to financial experts at Aussie Car Loans. We can help you determine what monthly repayment amount and end-of-term obligation are most suited to your financial profile.
We can help find the right car loan, whether you’re in the market for a new or used car. Get conditionally approved in as little as threeminutes with our online application. Call us today on 1300 889 669 or get a quick quote.
FAQs
How does a balloon payment work on a car loan?
When you take out a car loan with a balloon payment, you will be lowering the monthly repayment costs. However, you will be paying a percentage of the principal loan amount as a lump sum at the end of the loan term.
What is the difference between a regular car loan and a car loan with a balloon payment?
With a regular car loan, borrowers pay the loan amount and interest rate within the loan term. Borrowers won’t have any other obligations to the lender after the last repayment is paid.
Meanwhile, a car loan with a balloon payment means borrowers must pay a lump sum at the end of their loan term. Failure to make the balloon payment could mean borrowers would have to refinance or sell the car.
What is residual value, and how does it relate to a balloon payment?
Residual value and balloon payment are essentially the same. Both refer to a payment that needs to be made at the end of the financial agreement, be it a loan or a lease. The difference is with a car loan, you are obligated to pay the balloon payment. In most cases, you do not have to pay for the residual value in car leases if you do not want to buy the car you are leasing.
Are there advantages to taking out a car loan with a balloon payment?
A car loan with a balloon payment enables you to improve your cash flow with lower monthly repayments. It is also great for those who want to continuously upgrade their vehicles through trade-ins.
Are there disadvantages to taking out a car loan with a balloon payment?
Car loans with balloon repayments can cost more in the long run even if the monthly repayments are lower. Some may have trouble paying the lump sum at the end of their loan term if their financial situation changes.
How do I calculate the amount of the balloon payment on my car loan?
Use our car loan calculator with balloon repayment to find out how much your monthly repayments and the total loan will cost.
Can I refinance my car loan before the balloon payment is due?
You can refinance your car loan if you feel that you will not be able to make the balloon repayment. Discuss the timeline with your lender and ensure you’re not cutting it too close to the end of your loan term.
How does a car loan repayment calculator with a balloon payment work?
A car loan calculator with balloon repayment considers the loan amount, vehicle amount, interest rate, loan term, and balloon amount percentage. This will provide you with a clear idea of how much you will pay on your monthly, fortnightly, or weekly repayments.
How does the interest rate on a car loan with a balloon payment differ from a regular car loan?
The majority of lenders in Australia will not charge a different interest rate if you decide to add a balloon payment to your loan. However, it is important to discuss with your lender how a balloon payment may affect the interest rate they are providing you.
