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Car Finance Balloon Payment Explained

A high percentage of Australians will take out a car loan at some point. The New Daily examined figures from the Australian Bureau of Statistics and discovered that $16 billion was borrowed to buy motor vehicles in the year to November 2017.

However, it is fair to say that not everyone fully understands the terms and conditions of their car loans. One of the issues that cause the most concern is that of the car finance balloon payment. What exactly is this and why does it matter?


Understanding Balloon Payments

The easiest way to describe this payment is that it is the amount due to be paid off at the end of the loan term. In other words, it is the value of the loan less what has been paid off so far.

How does this usually work in real life? Typically, the borrower will pay back smaller repayments on a monthly basis, leaving a larger sum to be paid off at the end of the term.

This is in contrast to the more common approach to car loans of similar repayments throughout the term. With other types of loan, you pay the same amount each month for the full term and then it ends, so that the car is now yours without an additional payment being needed.

The balloon payment method works in a similar way with car leases. A leasing deal can be structured so that there is a big amount due to be paid at the end of the term. The person doing the leasing either pays it to buy the car or walks away without purchasing it.


How Much is the Balloon Payment for?

The general idea is that this final payment is worth the amount that the car is valued at the time it becomes due. This means that depreciation needs to be taken into account when calculating these figures.

A big part of this is the use that it is given. The number of kilometers driven will have a big effect on how quickly the value of the vehicle drops over time.

It is important that this figure is worked out correctly, as we can see by looking at an example. Say a borrower is left with a final payment of $8.000 but the car is only worth $5,000 at that stage. He might consider that it suits him to walk away, leaving the money lender with the problem of disposing of a car that is worthless then is owed on it.


What are the Benefits of doing this?

The most obvious reason for taking this approach is to be able to get bigger car loans. This can make the difference in terms of the model you can afford or the age of the vehicle.

The cost of buying a car varies greatly, with the cheapest new cars of 2018 including the likes of the Mitsubishi Mirage ES Manual at $12,250 and the MG MG3 Core manual at $13,990 according to Which Car.

At the other end of the scale, the most expensive car in the country is said to be the $5.5 million Pagani Huayra Roadster. No matter what the cost of your new car is, you will want to find the perfect model for your needs.

This isn’t always easy to do, though. You might want to stretch your budget to the limit to get the extra space your family needs or to get the reliability that your work demands.   

This approach can also help with your cash flow situation. If you feel that you will earn money or cash in an investment before the balloon payment is due, you can take this into account. Essentially, you are deferring a chunk of the car’s cost until further down the road, which can make sense in some cases.

This can mean that the monthly repayment figure is lowered by $100 or more on car loans, which can make a big difference in your personal finances over the period of the loan. You will also pay a good deal less interest overall by doing this.


What if you Can’t Pay the Balloon Payment?

Since this payment is due at some point in the future, unexpected circumstances can affect it. For instance, what if you lose your job or begin to struggle due to other commitments in the mean-time?

When the date to pay it off comes along, you have a choice to make. In terms of car loans, it is simpler. You either pay off the loan and keep the car or you don’t. If you don’t pay off the loan then this can have a big effect on your credit score, though, as you will have been seen to default on it.

Structured leasing deals will typically give 3 options at the end of the period. These are as follows;  

  • Pay the balloon payment to own the car outright
  • Switch to a new car, with new payment terms calculated
  • Keep the same car but get finance for the balloon payment, so that it can be paid off over time


Can you get an Additional Loan on a Car with a Balloon Payment?

In order to borrow against your vehicle, it needs to be free of other car loans against it. This means that you won’t be able to use it as security until this final payment has been cleared.

However, as soon as you pay it off you can use this asset to secure a no credit check loan. It doesn’t matter how much you earn or whether your credit score has been affected by a struggle to finalise this car loan.

It is easy to imagine a situation in which you may find it difficult to pay off your car’s balloon payment. If this leaves you short of cash for the rest of the month then you could use the same car as collateral for a new loan to help tide you over.

In this way, you don’t lose your vehicle but you also don’t end up lurching into a financial crisis caused by making this last payment.  


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