Glossary
Balloon payment
A large lump sum due at the end of a loan whose amortization is longer than its term. It means you must refinance on that date, at whatever rates exist and whatever your financials look like then.
Balloon payment: A large lump sum due at the end of a loan whose amortization is longer than its term. It means you must refinance on that date, at whatever rates exist and whatever your financials look like then.
Why it matters
A balloon makes the monthly payment affordable by not actually repaying the loan. A $500,000 loan on a 25-year amortization with a 5-year term has comfortable payments — and a very large balance due in year five.
The balloon is a refinancing obligation disguised as a payment. You are committing, today, to being financeable on a specific date years away, in conditions nobody can predict.
What can go wrong on that date
- Rates are higher. You refinance the same balance at a worse cost.
- Your financials are weaker. A soft year right before the balloon is the worst possible timing, and it is not within your control.
- Property values fell, so the loan-to-value no longer supports the balance.
- Credit conditions tightened, and the lender that would have refinanced you two years ago has withdrawn from the market.
- The lender simply declines to renew, which it is entitled to do.
Where you will and will not meet it
Common in conventional commercial real estate lending and some bank term loans. Notably absent from SBA 7(a) and 504, which fully amortize with no balloon — one of the strongest arguments for the programs and a point rate comparisons miss. See SBA 504, which fixes the rate for the entire term.
What to ask before you sign
- Is this loan fully amortizing, and if not, what is the balloon amount and date?
- Is there a renewal option, and on what terms — or is it entirely at your discretion?
- What would I need to look like at that date for you to refinance me?
- What does a fully amortizing version cost, and what does the payment become?