In addition to numerous installment financing options, a balloon loan is a financing alternative, especially when buying a car.
This is a balloon loan
A balloon loan is a type of financing that is particularly often used for car purchases. With balloon financing, a loan is paid off in low monthly installments at very favorable conditions. At the end of the term, however, a relatively high final installment remains, which is also called a balloon. The cheapest way to pay this is to pay it back in full in one transaction. The new car is then completely paid off. The alternative to a balloon loan is standard installment financing.
Conceptually, a balloon loan is similar to a leasing, but the car is not borrowed but changes ownership immediately. Additionally, in most cases no deposit is required. The term of balloon financing, also known as final installment financing, is usually one to five years. But despite the low monthly repayment rates, the balloon loan carries a certain risk. In the end, a large sum is due in the final installment, which not everyone can easily afford.
The risks of a balloon loan
The biggest risk of a balloon loan lies with the balloon itself, as the final installment corresponds to the remaining value of the car that has not yet been paid off – and that can be expensive. If a borrower is unable to pay off the last installment, there are several options to pay off the remaining amount. The borrower either returns the car to the dealer and, in the event of any loss in value due to accident damage, pays the remaining difference out of his own pocket. Or he sells the car on his own in order to achieve the highest possible purchase price with which he can pay the last installment. Another option would be to take out another loan so that you can continue to pay the final installment over a longer period of time. However, the additional loan is far more expensive in terms of installments than financing the balloon loan. So if you know that you won’t have more money available at the end of the term of the final installment loan than before, it’s worth comparing loans and, if necessary, a different type of financing.
When is it worth taking out balloon financing?
In principle, balloon financing is suitable for every age and group of people. The final installment loan is particularly interesting for people who know with certainty that they will have more money available when the loan ends. This can be done by paying off another loan, an upcoming salary increase, an inheritance or other events that increase your credit rating. But the balloon loan can also be attractive for younger people. For example, if a student needs a car to get to work, he or she can finance the purchase of the car with a final installment loan. When the end of the loan term comes with the completion of your studies, the final installment can be repaid from the first salaries of a permanent position.
Editorial team finanzen.net