What Is A Balloon Mortgage?
What Is A Balloon Mortgage?
Balloon mortgages are quite complex, but this article will endeavor to explain them as clearly and concisely as possible. The aim is to provide information that will help you understand this financial product and if it is a viable option when purchasing real estate.
What is a Balloon Mortgage?
A balloon mortgage is a loan that begins with a period where hardly any monthly payments are made. Indeed, there are cases where no monthly payments are made at all - it depends on the loan. Often, the only repayments you have to make are interest-only. Naturally, this differs from the conventional approach to mortgages - but why is it done?
Well, it's done because the rest of the mortgage is then paid at the end of the term. The concept is that you save on repayments each month, and the mortgage balloons up to be paid in the end. By comparison, conventional home loans adhere to the practice of monthly repayments that can be in the thousands of dollars range. Borrowers keep making these payments to pay off the loan amount and the interest over time. At the end of the term, no additional payments are required, and the loan has been repaid.
How Does Interest Work?
With a conventional loan, the rate is typically determined by the term. 30-year loan may have lower rates than 15-year, with both types charging interest each month on top of loan repayments. Nevertheless, balloon mortgages generally have lower interest than conventional ones due to the shortness of the term. With this financial product, interest is paid monthly, with the rest of the loan being paid at the end.
Balloon Mortgage Typical Term
Balloon mortgages are considered short term loans. They mostly will last between 5-7 years, depending on the individual case. Already, you can tell this is well below the average duration.
As a consequence, a balloon mortgage will be around for much less time. This can be both an advantage and a disadvantage. The advantage is that you don't have the burden of a loan hanging over your head for a few decades. A possible disadvantage for some is that a lot of money is paid in one go at the end. So, it's not an option that suits everyone.
Understanding the Repayment Structure
Before considering a balloon mortgage, an understanding of the repayment structure is required. Indeed, there are cases where no monthly payments are made at all. Instead, the payments you would make get added up to make a total sum at the end of your term. So, after 7 years, you will have to pay the full balance of your loan in one go.
Monthly interest payments could be enforced, but it depends on the loan’s conditions and the lender. At the very least, this will mean that you only pay the loan back in the end. You won't have to worry about interest added to the loan sum, which some people prefer. As a result, the repayment structure is focused on tiny payments for a short period, followed by a big sum at the end.
Is One Right for You?
The underlying advantage of balloon mortgages is that they might be more affordable overall than a traditional one - though different cases do vary. With conventional loans, interest is added for decades, which can mean you are paying more over a longer term, only in installments. A balloon lasts for half as much time as a 15-year mortgage, meaning less interest gets paid throughout the term. It is often suited to individuals that aren’t staying in one home for a long period so require a much shorter mortgage that can be repaid when the home is sold.
Nevertheless, this loan comes with risks. The big risk is that you're unable to pay the full loan off at the very end. If you don't have access to vast sums of cash - and can't save that much in a few years - a traditional mortgage might suit you better.
We are seasoned mortgage brokers in Miami and we're more than happy to help you find the ideal loan. Feel free to use any of the services on our website, or get in touch with us today to discuss things with a mortgage expert.