Why balloon payments can become a burden – and how to manage them

Buying a new car is an exciting moment in your life. But navigating through the complexities of vehicle financing can cause a headache, especially when it comes to understanding loan structures like balloon payments.  

Atang Matebesi, CEO of Santam Client Solutions, says deciding to take a balloon payment may seem like a convenient way to reduce monthly instalments, however, it can lead to significant financial strain down the road. 

Headaches of balloon payments

He explains that the financial burden that comes with a balloon payment is detrimental, especially if one gets into an accident and the car is written off. If this happens, you’ll have two headaches – figuring out how to get around town and how you will repay the outstanding balloon payment, for a car you no longer have.

“Imagine you buy the care of your dreams, only to be involved in an accident. Fortunately, no one is seriously hurt, but the damage to your car is severe enough for it to be written off. Despite having insured your car for its market value, you could still owe a substantial amount to the bank, however, if you add a balloon payment to the equation, the financial burden is even more detrimental.”

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Matebesi adds that South Africans must ensure that they are aware of the financial implications of opting for a balloon payment, as it can amount up to 40% of the value of the car they are purchasing.

Managing balloon payments

The Automobile Association of South Africa (AA) says there are three ways to manage balloon payments.

One option is to pay in the difference. This is done by saving the difference between the original monthly instalment and the new monthly instalment that was calculated with your balloon payment.

“If your instalment would be R5 000 and the balloon payment purchase would reduce your instalments to R3 200 per month, then saving R1 800 can help you make a significant dent in your balloon payment at the end of the deal. What your savings does not cover, should be more manageable for you to pay out of pocket.”

The second option is saving with interest.

“You can choose an amount that you are able to save and deposit this into an interest-bearing account every month, allowing it to build.”

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The AA says opting for a five-year fixed deposit account and contributing monthly is very likely to help you pay off your balloon – and perhaps even have some savings left.

The last option is refinancing the balloon payment.

Refinancing the balloon payment is like taking out a new loan, with new terms and interest rates, to pay the balloon amount. Also, your credit score at that moment will determine how much your interest rate will be, so while you might qualify for a better interest rate on the balance, this is not guaranteed.