A balloon mortgage is a financing option for buying a home. However, you need to carefully consider the consequences before making this choice.
With a balloon mortgage, you have low payments for a specific number of years. The payments are typically slightly less than that of a 30-year fixed- rate mortgage. After the set time period is up, the principal must be repaid in one lump sum. That means you have to either come up with the entire amount for the principal, or you have to refinance the loan. Refinancing usually means that you’ll have higher monthly payments since the principal has not been paid down.
Buyers are attracted to balloon mortgages for a variety of reasons. For example, if a borrower knows their financial situation will improve down the road, a balloon mortgage can allow them to buy a more expensive house. The borrower could then refinance when the expected raise, job change, or financial improvement occurs. Other borrowers may have a debt that is about to be paid off which will enable them to pay more toward a mortgage payment later. Others choose a balloon mortgage because of loss of an income earner in the family due to going back to school or staying at home with children. The balloon mortgage provides lower monthly payment to give some flexibility.
Balloon mortgages should be entered into with caution, however. They are a quick fix, but they do not build equity in the home. And, when the balloon expires, borrowers may face sticker shock of a higher mortgage payment if they refinance. Borrowers should explore all of their options and think carefully before getting a balloon mortgage to be sure that the terms suit their financial situation.
