A balloon payment (sometimes called a residual) is a lump sum you agree to pay at the end of a car finance agreement. It's set as a share of the car's price, and it makes the monthly instalment smaller. It also makes the car more expensive.
Why the instalment falls
Without a balloon, your instalments repay the whole amount financed by the end of the term. With a balloon, they repay everything except the balloon, which is left to pay at the end. Less capital to repay each month means a smaller instalment.
Why the total cost rises
You pay interest on the balloon amount for the whole term, because you still owe it all the way through. So the interest bill grows.
A worked example
A car costs R400,000. You pay a R40,000 deposit and finance R360,000 over 72 months at 12.5%.
- No balloon: R7,132.02 a month, and R153,505.94 of interest.
- 30% balloon (R120,000): R6,004.68 a month, R1,127.34 less, but R192,337.27 of interest: R38,831.33 more. And you still owe R120,000 at the end.
When the balloon falls due
You have three choices:
- Pay it in cash.
- Refinance it as a new loan. Refinancing R120,000 over 36 months at 12.5% costs R4,014.45 a month and adds about R24,500 of interest.
- Sell or trade in the car and use the proceeds. This works only if the car is worth at least the balloon by then; if it's worth less, you must make up the difference.
Is a balloon ever sensible?
It can suit a buyer who plans to change cars at the end of the term, or who expects a lump sum (such as a bonus) to pay it. It's risky if you're using it only to afford a car whose full instalment you couldn't manage. Compare both in our car finance calculator. We don't offer finance or recommend dealers or banks.
Questions to ask before you agree to a balloon
- What will the car probably be worth when the balloon falls due, and is that more than the balloon?
- If not, where will the difference come from?
- What would the instalment be with no balloon, and could you afford it with a shorter term or a bigger deposit instead?
Sources
- Government Gazette 39379: review of limitations on fees and interest rates
- National Credit Act 34 of 2005
This is general information, not tax, legal or financial advice.