What’s a balloon payment?

Balloon Payment/Residual Value on a Car Loan Explained and How They Work

One of the primary decisions you have to make when choosing a car loan over another is whether you wish to have a residual value, or balloon payment, attached to the loan. This decision will have a direct impact on the repayment sum, as well as the amount you’ll owe at the end of the loan. Keep on reading to find out the features of this kind of payment, and the benefits linked to it.

Balloon Payment/Residual Value Explained

A residual value accounts for a sum of money owed to the lender, after the payments have been made, at the end of the loan. That enables the borrower to repay only a segment of the total amount of debt during the life span of the loan, hence, diminishing the monthly repayments. Nonetheless, in exchange, he/she will owe the financier a particular sum of money when the term of the loan is reached.

For instance, let’s say that you wish to borrow $40,000, and the lifetime of the loan is five years. In this situation, you choose to have a 25 percent residual value on the finance, namely $10,000. That means you’ll make smaller regular repayments; notwithstanding, you’ll owe your lender $10,000 after having made all repayments.

We could say that a Balloon Payment behaves similarly to an offset amount from the whole price of the vehicle, which is due payment at the end term of the loan.

When it comes to Lease Agreements, balloon payments are compulsory; nonetheless, in other instances like a Chattel Mortgage or a Personal Car Loan, they are optional.

How They Work – Aspects That Should Be Considered

The fundamental advantage of selecting a balloon payment is reducing the amount of monthly repayments. That leads to other benefits, such as growing affordability, and the maximum size of the loan.

Before choosing this option, it’s quintessential to anticipate the forecasted worth of your vehicle at the end of the loan. Ideally, your Balloon Payment should be smaller or equal to the value of your car. If you follow this guideline, and you wish to purchase another vehicle at the end of the loan and sell your car, you can start your loan contract with a deposit or zero balance.

Also, if you plan to use the vehicle for business purposes, the payable amount of interest during the lifetime of the loan is typically increased, which means you’ll pay less principal that isn’t deductible. On the other hand, though, when the vehicle is used for personal purposes, it results in paying high interest, with the primary benefit of diminished repayment rate.

Concurrently, take into account that, if you fail to make repayments on time, during your loan term, the lender may not agree to refinance your balloon payment. In this instance, you might be forced to sell your car, in order to pay the residual value, without being able to opt for financing for a new car. Notwithstanding, if you opt for a loan without a balloon payment, at the end of the loan, you become the owner of your vehicle, and you avoid the situation mentioned above.