Balloon Payment

With a balloon loan, the regular payments are kept low because they cover only interest, or interest plus a small part of the principal. The remaining balance must be paid in one go at the end of the term.

For example, a business might take a five-year loan of 1,000,000 with monthly payments calculated as if the loan were being repaid over 20 years. At the end of five years, a large balance remains, which must be paid as a balloon payment.

Balloon payments are common in commercial property lending, some business loans and certain car finance agreements, such as personal contract purchase in the United Kingdom, where the final payment is optional and lets the borrower keep the car.

They can make borrowing more affordable in the short term and suit borrowers who expect to sell the asset, receive a large sum or refinance before the balloon is due. The risk is that the borrower may not have the money when the payment falls due, and refinancing may be difficult or expensive if interest rates have risen or the asset's value has fallen.