Balloon payments in car loans: How they work and what to consider

Introduction

When drafting a car loan agreement, you may come across several repayment options depending on your financial situation. One of these is a balloon payment, which involves paying a large lump sum at the end of the loan term.

This option can make repayments more manageable during the loan period, but it also comes with long-term financial considerations. Understanding whether a balloon payment suits your circumstances is essential before making a decision.

In this blog post, we explain how balloon payments are calculated, outline their potential benefits and risks, and highlight the key factors to consider before including one in your car finance agreement.

What is a balloon payment in a car loan?

A balloon payment is a large, one-time amount that you agree to pay at the end of your car loan. Unlike a regular car loan, where you repay the full amount of the loan and interest in even monthly instalments, a balloon loan is structured differently.

You only pay part of the principal during the loan term, along with the interest. The remaining unpaid balance, called the balloon payment, is due at the end of the loan period.

The size of the balloon payment is usually based on a percentage of the vehicle’s value, often reflecting what the car is expected to be worth at the end of the loan. This percentage can vary, but generally ranges between 15% to 50% of the car’s price.

When you take out the loan, you and the lender will agree on how much the balloon payment will be. You also choose the loan amount and the repayment period, while the interest rate is set by the lender. Shopping around for the best interest rates and terms is recommended before committing to a balloon loan, as rates can vary between lenders.

How does a balloon payment in car loans work?

A balloon car loan works in a similar way to a regular car loan. You agree with the lender on the loan amount, interest rate, and repayment term. What makes it different is that a portion of the loan is set aside to be paid at the end as a single lump sum.

This final amount, called the balloon payment, is usually a percentage of the total loan and may be limited by the lender’s policy.

Some lenders have strict conditions on how large the balloon payment can be and what interest rates apply. Others may offer more flexibility, especially if you have a good credit history.

Although you may be able to negotiate some parts of the loan, it is often best to choose an option that already matches your financial goals. Make sure the regular repayments are manageable and that you have a plan in place to cover the final amount.

How are balloon payments calculated?

Balloon financing monthly repayment comparison
	With balloon payments	Without balloon payments
Vehicle Price	$50,000	$50,000
Loan Term	5 years	5 years
Interest Rate	7.25%	7.25%
Balloon Payment (End of term)	$15,000 (30%)	None
Loan Amount Used for Repayment	$30,000	$50,000
Monthly interest rate	0.625 percent	0.625 percent
Approx monthly repayments	$701.33 (35,000 × 0.00625) ÷ [1 − (1 + 0.625)5−60]	$1,001.90 (50,000 × 0.00625) ÷ [1 − (1 + 0.625)5−60]
Monthly savings	$300.57

Benefits of balloon payments in a car loan

The primary advantage of including a balloon payment in a car loan is that it makes your repayments lower. This structure benefits you in the following ways:

• Because repayments are lower, it eases the pressure on your monthly budget and makes it easier to manage other living expenses like rent, groceries, and utilities.
• You will have more cash available throughout the loan term, which can be used for saving, investing, or handling unexpected costs.
• This structure may allow you to afford a higher-value or newer vehicle that would be otherwise out of reach with standard repayment terms.
• If you plan to sell or upgrade your car in a few years, you can benefit from lower costs during ownership without worrying about the balloon until later.
• If you are using the vehicle for business, a balloon payment can help free up more funds during the loan term, supporting day-to-day operations or investment in other areas of your business.

Disadvantages of balloon payments

While balloon payments can reduce your regular car loan repayments, there are several drawbacks you need to consider:

Higher loan Costs

While balloon payments reduce monthly repayments, they generally lead to higher total loan costs. This is because the balloon amount remains unpaid until the end of the term, and interest continues to apply on that remaining balance throughout the loan.

Large final payment

At the end of the loan, you are required to pay a lump sum, which can be thousands or even tens of thousands of dollars. Without proper planning, this amount can become difficult to manage and may create financial pressure.

Uncertainty with refinancing

If you cannot afford the final payment, you may consider refinancing. However, approval is not guaranteed. If your income, credit score, or financial situation has changed, you may not qualify for a new loan when you need it most.

Risk of depreciation and negative equity

Cars lose value over time. If the car is worth less than the balloon payment when it is due, you may owe more than the car is worth. This is a common problem for people who plan to sell the vehicle to cover the final payment.

What are your options when the balloon payment falls due?

When your car loan reaches the end of its term, the deferred balloon payment becomes due. This is often a significant lump sum, sometimes thousands or even tens of thousands of dollars, so it's important to plan ahead. You generally have three main ways to manage this final amount:

1. Pay the balloon payment in full

If you have enough savings set aside, the simplest option is to pay the balloon amount in one full payment. This clears your loan and gives you full ownership of the vehicle with no further financial obligations.

2. Trade In the vehicle and start a new loan or lease

If you are ready for a new car, you can trade in your current vehicle and apply its trade-in value toward a new purchase. This trade-in process can help offset or completely cover the balloon amount.

You would then:

• Begin a new car loan or lease agreement
• Possibly include another balloon payment in the new finance structure

This is the best option for people who upgrade cars regularly and do not want to keep the same vehicle for the long term. However, make sure the trade-in value of your current car is enough to cover the balloon; otherwise, you will need to pay the difference.

3. Refinance the balloon amount

If you want to keep the car but cannot afford to pay the balloon amount upfront, refinancing allows you to convert the balloon into a new loan. This option spreads the final amount over another 1 to 5 years with monthly repayments.

How does it work?

• You apply for a new loan for the balloon amount
• The interest rate is based on your current credit profile
• You can choose whether or not to include a new balloon payment in the refinanced loan

This option works best for people who are happy with their vehicle and want to avoid a large lump-sum payment. Just keep in mind that extending the loan will increase your total interest paid.

It is recommended to start planning a few months before your balloon payment is due.

This allows you to:

• Review your current financial position and decide what you can afford
• Compare refinancing options and check interest rates based on your credit profile
• Explore trade-in values if you are considering a new car
• Prepare your next steps early to avoid last-minute decisions or financial stress

Factors to consider before choosing a balloon payment

Before deciding if a balloon payment suits your situation, it’s important to weigh these key factors to make a well-informed and feasible decision.

Future income stability

Think about whether your income is likely to remain steady by the time the balloon payment is due. If you anticipate a job change, reduced hours, or a break from work, the final lump sum could create pressure.

Vehicle ownership plan

Are you planning to keep the car long term or change it within a few years? Balloon loans work better if you intend to trade in the vehicle before the balloon amount becomes payable.

Refinancing access uncertainty

If your plan is to refinance the balloon payment, remember that this depends on market conditions and your financial profile at the time. There’s no guarantee you’ll qualify for another loan in future.

Cash flow clashes

Consider any major financial commitments that may arise near the end of your loan term. Expenses such as a home deposit, renovation, or family event could affect your ability to cover the balloon.

Lender terms awareness

Check whether your lender allows early repayments or refinancing without penalty. Some may have rigid terms that limit your flexibility when circumstances change.

Bottom Line

Choosing a balloon payment is just one of several key decisions when financing your next car. It offers flexibility in how your loan is structured and may be suitable depending on how long you plan to keep the vehicle and what your financial situation looks like at the end of the term.

At ZedPlus, at our lending specialists take the time to understand your needs and recommend car loan options that match your goals. With access to a broad range of lenders, we provide competitive and flexible finance solutions that are tailored to your circumstances.

Whether you are buying your first car or upgrading, we are here to guide you through every stage of the process. From selecting the right loan structure to handling your application, we ensure the process is simple and transparent.

Book a call with one of our lending experts today and take the next step in your car finance journey.