A balloon payment is a large payment due on
a loan after a specific period of time. Typically, balloon
payments come due so that lenders have the opportunity to
adjust interest rates, staying in tune with current rates.
Here’s why that’s important.
Perhaps you’re ready to buy a home or take out a new
loan on your home at a time when interest rates are very low.
The lender provides the money and you have forty years to
repay the loan. Then interest rates overall rise dramatically.
You, the borrower, are in an ideal situation. You’ve
achieved the loan at rates much lower than the current conditions.
For the lender, the interest he’s earning on your loan
is much lower than what he’d be earning at the higher
rate. Attaching a balloon payment after a specific period
of time allows the lender to renegotiate
the interest rate. Of course, the opposite is true if
you’ve taken out a loan when the rates are high. Then
a balloon payment works in your favor because you have a chance
to renegotiate at a lower interest rate.
Some important points about balloon payments are:
- Remember that the entire balance
is due, and the lender has the right to call for full payment
at that time. Typically, a lender will refinance, but poor
payment practices or faltering market conditions may very
call cause the lender to call for payment in full.
- The entire loan – terms, conditions and interest
rates – can be renegotiated at the time of balloon
payments.
- You have the option to borrow the money from another lender
at the time the balloon payment is due. If you can find
better options and rates from another company, you’ll
be able to make the change at that point, usually without
penalties.
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