Getting a loan is one of the most effective ways to finance a project. Most organizations and even individuals take out loans. There are different types of loans in Canada, and each has its terms and conditions.
We’ll find the repayment model in the terms and conditions. This is where balloon payment comes in. Most people have come across balloon payment; however, not everybody knows what it entails. Let’s take a look at what balloon payment is and how it works in Canada.
What is a Balloon Payment?
Balloon payments are a form of financing that involves little to no down payments at the beginning of the loan’s term. With balloon payment, organizations or individuals must make a lump-sum payment after taking out a loan.
This lump payment is due for payment at the end of the loan term. Balloon payments are suitable for people who need a flexible repayment plan for their loans. It comes in handy for persons who are sure they can afford to make the lum payment at the end of their loan term.
It is a flexible way to take out a loan without committing funds at the beginning of the loan’s term. The loan’s strict payment structure is suitable for people with an:
- Excellent credit score
- A good history
- High income
- Enough cash at hand.
Balloon payments can be tricky for some borrowers because of the large sum of payments involved. Some people take out these loans thinking they’d have the repayment money available before it is due.
Sadly, this is not the case for some people. Balloon payments are mostly related to mortgages, people who want to finance their homes with a loan. Also, people in business and automobiles leverage balloon payments for their loans.
Balloon Payment Structure
Balloon payments have a stiff payment structure as consumers are expected to pay a considerable sum of the principal, which is the initial amount borrowed.
Generally, balloon payments allow you to negotiate how much the money borrowed will be paid at the end of the loan’s term. Below are the most common options when it comes to balloon payment structure:
- The borrower repays part of the principal alongside interest – this includes paying some amount of the lender’s fees monthly and repaying the principal’s remaining outstanding when the loan is due.
- The borrower pays in installments – this involves a monthly installment payment of the interest. Afterward, the borrower must repay all the principal when the loan is due.
Since all financial situations are not the same, evaluating your financial needs and standing is advisable before taking out a balloon loan. A balloon payment structure might benefit some people, while it might land others in debt.
Pros of a Balloon Payment
As with all financing tools, balloon payment has its perks. Below are some of the pros of balloon payments:
- No initial down payment
With balloon payment, you are not required to make a down payment when taking out a loan. And when you have to make a down payment, it is usually a minimal amount.
- Relatively affordable
Balloon loans are an excellent and affordable way to finance a project for the short term.
- Easy to get
As long as you meet the requirements and payment structures, you can be sure to get the loan.
Cons of a Balloon Payment
A balloon payment might seem enticing, but it has some downsides. Below are some of the cons of a balloon payment:
- Risky
A balloon payment poses a higher risk to borrowers compared to traditional loans. More risks are associated with balloon payments due to their intense payment structure.
- Pricey
Balloon loans are expensive in the long run compared to conventional loans. It might seem affordable and cheap in the short term, but it is costly in the long run, especially for those with an interest-only payment plan.
- Unpredictable Cash Flow
Predicting your future cash flow can be tricky, as unforeseen situations might disrupt your prediction. This will, in the end, leave you in debt if you cannot pay your lump sum at the end of the loan’s term.
Final Thoughts
Although complex, balloon payments are some of the best financial products available for borrowers. Note that only qualified borrowers with a stable income, sufficient cash on hand, and good credit should take out this loan.
An average borrower may not take out a balloon loan, as the future income growth is uncertain. In the end, seeking financing options suitable to your financial needs is advisable.
