A balloon payment is an amount payable at the end of the loan period which is often a percentage of the asset price or amount borrowed. Also known as a residual payment, balloons are a requisitie for Leases and optional for most other forms of finance. The balloon structure can be applied to a variety of assets.
Why Incorporate a Balloon Payment?
There are a number of reasons for choosing a loan with a balloon payment as opposed to a loan with no lump sum at the end of the life of the loan.
More Tax Deductible Interest
Only the interest component of a business related asset is tax deductible so if the bulk of the regular repayments are interest and the balloon repayment is the cost of the asset, more of your outgoings can be claimed on tax. For leases the ATO sets a minimum residual value guideline for motor vehicle loans based on the length of the lease. For other forms of finance such as chattel mortgages and personal or consumer loans they are entirely optional. Unlike leases there are no minimum balloon value guidelines while the maximum residual value depends on the age of the asset, type and length of loan and strength of borrower.
Lower Ongoing Repayments
Due to the lump sum payment at the end of the loan the effective amount financed is lower hence lower repayments. A balloon repayment reserves cash-flow for the life of the loan, so the loan is more affordable over its term. When it comes time to pay out the balloon, many people opt to trade in the asset for a new model and arrange another loan otherwise the balloon can be rolled over and financed for a further period of time essentially allowing a loan term longer than the 5 year maximum.
For some individuals and businesses a loan with a balloon payment means the difference between being able to afford a new car or asset and not affording it. The new asset may allow a business to earn additional income which will pay the balloon repayment at the end of the loan. Individuals who earn an annual bonus may use these funds to pay the balloon.
When to Opt for a Loan without a Balloon Payment
Balloon payment loans may be right for some, but they don’t suit everyone.
As you are making lower repayments during the life of the loan, you usually pay more in interest with a balloon loan. If you can make higher regular loan repayments than a loan without a balloon payment, then this option may save on interest.
Asset May be Worth Less than the Balloon
If you think your asset will depreciate faster than average due to high kilometres then you may find that your balloon payment is more than the value of your asset. This means you will have to find the difference if you decide to trade-in or sell the asset.
The key to the success of balloon payment loans is to ensure the asset is valued at the same or more than the cost of the balloon payment at the end of the loan. This gives you more options for keeping, selling or upgrading the asset.
If you have any queries about whether a balloon payment loan is right for you, talk to one of the experts at PTR Finance Group. We can access a wide range of loans to find one that will be right for you throughout the life of the loan and at the end. Simply tell us your requirements or call us on (08) 9322 1229 and we will advise you of the options available to you.