A balloon payment is the last, lump sum that is paid at the end of a loan term and is greater than all of the previous payments made on the vehicle. If you’re looking for a loan with lower monthly payments than a car lease but ownership rights, an auto balloon loan might be a good option. If you are certain that you will be able to pay the balloon payment, it may be a wise decision; however, if you don’t have a strategy in place for making such a big payment, it may be dangerous.
What is a Balloon Payment on a Car Lease?
A balloon payment is a sizable, one-time payment that is due at the end of the lease period on an automobile lease. Usually, this payment is much more than the regular monthly lease payments you make for the duration of the lease. Before agreeing to this kind of lease, it’s crucial to comprehend the consequences of a balloon payment, even though it could seem like a smart way to reduce your monthly payments.
How Does a Balloon Payment Lease Work?
In a traditional car lease, you make monthly payments that cover the depreciation of the vehicle over the lease term. At the end of the lease, you have the option to return the car, purchase it for its residual value (the predetermined value of the car at the end of the lease), or lease a new car.
With a balloon payment lease, the monthly payments are lower than those of a traditional lease because you’re not paying for the full depreciation of the vehicle Instead, a portion of the depreciation is deferred and becomes the balloon payment due at the end of the lease This balloon payment can range from a few thousand dollars to tens of thousands of dollars, depending on the vehicle and the terms of the lease.
Pros and Cons of Balloon Payment Leases
Pros:
- Lower monthly payments: This is the main advantage of a balloon payment lease. By deferring a portion of the depreciation, you can significantly reduce your monthly payments compared to a traditional lease.
- Flexibility at the end of the lease: With a balloon payment lease, you have more options at the end of the lease term. You can choose to make the balloon payment and purchase the car, return the car and walk away, or use the equity in the car to lease or purchase a new vehicle.
Cons:
- Large balloon payment: The balloon payment can be a significant financial burden, especially if you don’t have the funds readily available. If you can’t afford to make the balloon payment, you may have to return the car or sell it at a loss.
- Higher total cost: While the monthly payments are lower, the total cost of a balloon payment lease is often higher than that of a traditional lease because of the interest charged on the deferred depreciation.
- Risk of negative equity: If the car’s value depreciates more than expected, you could end up owing more than the car is worth at the end of the lease. This is known as negative equity, and it can make it difficult to sell or trade in the car.
Should You Consider a Balloon Payment Lease?
A balloon payment lease may be a good option for you if:
- You have excellent credit and can qualify for a low interest rate.
- You are confident that you will have the funds available to make the balloon payment at the end of the lease.
- You want to keep your monthly payments low and have flexibility at the end of the lease term.
However, a conventional lease can be a better option for you if you’re worried about the possibility of a sizable balloon payment or negative equity.
Alternatives to Balloon Payment Leases
There are a few options to balloon payment leases if you’re trying to cut your monthly auto payments:
- Negotiate a lower lease payment: You may be able to negotiate a lower lease payment with the dealer by putting more money down or extending the lease term.
- Consider a used car lease: Used car leases typically have lower monthly payments than new car leases.
- Finance the car instead of leasing it: If you have good credit, you may be able to get a lower interest rate on a car loan than you would on a lease. This could save you money in the long run, even if your monthly payments are higher.
Frequently Asked Questions about Balloon Payment Leases
- What happens if I can’t afford the balloon payment? If you can’t afford the balloon payment, you will have to return the car to the dealer. You may also be responsible for any excess wear and tear on the vehicle.
- Can I refinance a balloon payment lease? Yes, it is possible to refinance a balloon payment lease. However, this can be a complex process, and it’s important to shop around for the best rates and terms.
- Is a balloon payment lease right for me? There is no one-size-fits-all answer to this question. The best way to decide if a balloon payment lease is right for you is to carefully consider your financial situation and your needs.
Additional Resources
- LendingTree: What is a Car Balloon Payment and How Does It Work?
- Credit Karma: What Is a Balloon Payment Lease?
Balloon payment leases can be a good option for some drivers, but it’s important to understand the risks and benefits before committing to this type of lease. If you’re considering a balloon payment lease, be sure to do your research and compare your options before making a decision.
Pros and cons of a balloon payment loan
You might be thinking about a balloon payment loan if you want to avoid leasing a car but still want a lower monthly payment. But it’s crucial that you have a strategy in place for repaying the loan when it’s due at the end of the term.
| Pros | Cons |
|---|---|
|
Smaller monthly payments Buys you time |
Very large payment at the end of the loan Danger of being upside down Higher interest rates and fees |
Reduced monthly payments: What’s not to love? If money is tight, a balloon loan gives you the ownership rights along with a lease’s lower payments. Even in situations where money is not tight, small payments enable you to invest your funds in high-yielding ventures before using the profits to offset the balloon payment.
Buys you time: A balloon loan could be a smart choice if you don’t currently have the money to pay off your auto loan but are confident you will have it by the end of the term. When you sign your loan documents, you’ll know how much the balloon payment will be, so you’ll know how much you need to save for that last payment. In the meantime, those saved funds can be earning interest rather than going to a lender.
Exorbitant final payment: Unless you have exceptional budgetary abilities or a special financial circumstance, you might find yourself in a difficult situation when the loan is about to expire. Make sure you have a strategy in place for handling the balloon payment at the end of the loan before you take out a balloon car loan.
Risk of being upside down: You might not be keeping up with the depreciation of your car because your monthly payments will be smaller. This could indicate that you are upside down on your loan, meaning you owe more than the car is worth. When the balloon payment is due, you might have to pay more than the car is worth or risk having your credit ruined by walking away from the vehicle.
Elevated interest rates and fees: Balloon auto loans typically carry higher interest rates and fees due to their inherent risk compared to conventional financing. That’s something to keep in mind as you decide how you want to finance your next car. You might pay less each month, but over the course of the loan, you might end up paying more.
Balloon loans vs. leasing
Balloon loans are a bit of a compromise between leasing a car and traditional financing. Similar to leasing, balloon loans have smaller monthly payments, but they can be difficult to understand, especially if you’re not ready to make the last payment. Leases typically offer the lowest monthly payments, followed by balloon loans and then traditional loans. Thus, you might want to think about leasing a car if the lowest monthly payment is all that matters to you.
One big difference between a balloon loan and a lease is the ownership of the car. When you sign a lease, the car belongs to the dealer for the duration of the lease, but you might be able to buy it when it’s time to buy it. Similar to conventional financing, a balloon loan would transfer ownership of the vehicle to you upon loan repayment in full. As a result, unlike standard car leases, balloon loans usually don’t have mileage or other restrictions.