What Is a Balloon Payment on Car Finance?

When looking to purchase a car on finance, one of the things you might have to consider is whether or not there is an option for a car balloon payment.

But what is a balloon payment on car finance, and how does it work?

Let’s find out. 

What Is a Balloon Payment On a Car Loan?

A balloon payment is the final, lump sum that’s paid at the end of the financial agreement, which is larger than the payments that came before it. 

With this type of loan structure, you only pay a part of the principal of the loan over the term, in exchange for owning a larger sum at the end.

Balloon payments on cars are optional and you’ll have to qualify for one to take advantage of it. 

How Does a Balloon Payment On a Car Work?

When buying a car on finance, you can ask your finance provider if they’re willing to offer you a balloon payment. If you qualify and they agree, the finance provider will let you pick the amount of balloon payment you want to owe at the end. 

They will then lay out a schedule for monthly payments that you’ll need to pay throughout the entire term. 

Once the term ends, and you pay all of your monthly installments, you’ll need to cover the balloon payment too.

Worth noting: Lenders don’t usually consider those with a bad credit score for balloon payments. If you have a bad credit score and are looking for a personal unsecured loan to buy a car, see our list of lenders that offer credit to people with a less-than-ideal credit rating. 

Car Finance Balloon Payment Explained: Types Of Car Finance With a Balloon Payment

With car finance, there are two options that include a balloon payment: a lease purchase and a Personal Contract Purchase (PCP).

• PCP: A balloon payment for car finance in a PCP agreement, also referred to as Optional Final Payment, is paid only if you want to get full ownership of the vehicle. If you choose to return the car to the lender or use what you’ve paid for a new contract, you won’t have to make the balloon payment.

• Lease purchase: Unlike PCP, the balloon payment for a car in a lease agreement is not optional. When leasing a car, you can defer part of the loan to the end of the agreement but you’ll need to pay the deferred amount (or balloon payment) at the end.

Worth noting: One of the main differences between a PCP agreement and a lease purchase is how they’re calculated. For PCP agreements, dealerships usually use the Guaranteed Future Value figure, which is an estimate of how much the car will be worth at the end of the contract, based on fuel type, car model, contract, length, car maker, and estimated mileage. 

You may be interested in: Can you trade in a PCP car to another dealer?

Who Is a Balloon Payment Car Finance For?

If you’re buying a car with a lease, a balloon payment can save you the hassle of figuring out how to cover your monthly payment when you’re short on cash and reduce the risk of defaulting, which can hurt your credit score.

On the other hand, a PCP finance with balloon payment gives you options. In addition to paying less in monthly instalments, you can change your mind and return the car at the end, or swap it for another one. What’s more, you can get this type of car finance for a car from a private seller as well.

For individuals with a bad credit score, it would likely be easier to get a PCP finance agreement. If you prefer taking out a personal loan, you can try applying for a car loan with a guarantor for more affordable interest rates.

Regardless of the deal you pick, it’s important to keep in mind that a balloon payment is a good option only for those who have a solid financial plan and are certain they can pay the lump sum at the end of the loan’s term. 

Can a Car Finance Balloon Payment Change?

The balloon payment is fixed and set at the start of the agreement, which means it can’t decrease or increase over time – regardless of whether the car’s value ends up being higher or lower than the preset value. 

This is why it’s important to do your research and try to find a vehicle that is more likely to hold its value over time. You may also want to consider getting GAP insurance, which would cover the difference if you had to make a balloon payment on a car that was worth less than what you owed.

Pros and Cons of Car Finance With a Balloon Payment

The main benefit of opting for a balloon payment is that you will pay less in monthly installments. 

By deferring a large portion of the loan to the end of the term, you can reduce your monthly payments and free up some cash flow in the short term. This can be helpful if you want to use your extra cash for other purposes, like saving for a down payment on a home or investing.

The downside is you’ll likely pay more in interest over the life of the loan. You’ll also need to come up with a large lump sum of cash at the end of the loan term.

Can I Get Car Finance Without a Balloon Payment?

There are car financing options that do not include a balloon payment, such as a car lease or a hire purchase agreement.

With a hire purchase agreement, the cost of the car is evenly split over a set period of time. Once you make the final payment, you will receive full ownership of the car. 

A car leasing contract similarly involves monthly payments but there’s no ownership deal– at the end of the term, you’ll have to return the vehicle to the leasing company.

Bottom Line

A balloon payment is a lump sum that you pay at the end of a loan’s term. It’s a great option for individuals who want to lower their monthly payments but have a solid plan to churn out more money at once when the loan term ends.