A balloon loan is a form of short-term mortgage. The balloon loan is often compared to fixed-rate mortgages, which it shares some of its features. For example, a balloon loan borrower offers a level payment amount over the term of the loan. However, unlike fixed-rate loans, balloon mortgages do not need to write off in the original term. Instead, this type of loan can have one of many maturity types.
When most borrowers take on mortgage loans they get loans will be fully repaid over a specified period of time. This time is called the term of the loan. Balloon loans have set loan terms, just like any other type of mortgage loan. However, the monthly payments the borrower makes are not sufficient to repay the loan. As such, the borrower ends up due to a fixed amount consisting of the remaining principle at the end of the loan term.
Often, mortgage borrowers take on loans that last for 10, 15, 20 or even 30 years. When the borrower makes his final monthly installment, he or she is usually cleared of mortgage debt.
Balloon loans often range for about five to seven years, although the term lengths vary, and the remainder of the mortgage matures at the end of the term.
The debt is not approved with a final installment payment. In the mortgage world, the end of the term of the loan is called maturity. Some people see the balloon loan as a bad choice because the borrower must be disciplined enough to plan for a large amount on expiration.
Though the disadvantage of having to come up with a large sum of money at the end of a rather short loan term is obvious that there are benefits to securing a balloon loan. One major advantage is that balloon loans often make interest payments, allowing the borrower to hold on to more cash over the term of the loan. The borrower can use cash as she sees fit, perhaps even investing it in the hope of earning more than what is required to repay the loan.
A balloon loan is not always forever. Often these loans give the borrower a conditional right to refinance for a new loan. This can save some borrowers who anticipate having difficulty getting up with a lump sum. However, these borrowers may end up paying more over the length of the refinanced loan. This depends on a number of factors, including the interest rate on both loans and any penalties.