Balloon Mortgages

Balloon loans have many of the same features of a fixed rate mortgage with one major exception; at the end of a predetermined amount of time the remaining balance of the loan is due in full.  These home loans offer a level payment feature during the term of the loan, but as opposed to the 30 year fixed rate mortgage, balloon loans do not fully amortize over the original term.  In a balloon mortgage loan contract, the borrower agrees to make a lump sum payment of the loan balance at the end of a certain period, typically two to ten years.  At the end of the original term the home loan borrower must pay off or refinance that remaining mortgage balance.  That is, the payment is calculated over 30 years but the balance must be repaid sooner.

Balloon loans can have many different maturities or terms, but most balloons that are first mortgages have a term of 5 to 7 years.  Though the term of the home loan is 5 or 7 years, the payment calculation is based on a longer term, generally 30 years but can also be for 15 or 20 years.  Sometimes theses home loans are often viewed as close substitutes for an adjustable rate mortgage.  They have an initial fixed interest rate period of five or seven years which shortens the interest rate risk for the mortgage company and thus the mortgage rate to the borrower the result is that these home loans generally have a lower mortgage rate than that of a fully amortizing 30 year fixed rate home loan. 

Balloon loans can keep the monthly payment lower than standard 30 year fixed rate mortgages but these home loans also have risks.  The balloon loan will come due and if you don’t have sufficient funds to pay off the balance or a substitute loan in place this can spell trouble since the borrower will now be in default on the mortgage loan.  The general rationale for incurring the added risk of the balloon feature is that since the vast majority of mortgages will never be paid in full because very few people remain in a home for the full length of their mortgage.

When choosing a balloon loan be sure you fully understand the time frames involved and the terms and conditions of repayment or conversion.  This loan is generally used by borrowers who are fairly certain they will be moving from the house that they have the balloon loan on.