Can someone explain balloon mortgage to me in layman's terms?

Question

Ok, so I am thinking of seller financing a home and it was advised I offer a certain % down and approach the seller about a 5 or 7 year balloon mortgage. I would make payments every month to the seller and at the 5 or 7 year mark, I could pay the seller the full amount. How does this work? I don't understand it at all. Thanks!

Jon Holdman · Answer

When the balloon payment comes due, refinancing is an option. You would get a new loan and use the money you borrow with the new loan to pay off the old one. You have to qualify for the new loan, of course. And you'll pay whatever interest rate is in effect at that time.Honestly, I would think twice about doing this. The fact you're considering this tells me you have credit or income issues. Todays interest rates are quite low. Ideally you would get a 15 or 30 year fixed rate, fully amortized loan. Fully amortized means all payments are the same and when you make the last payment, the loan is paid in full. By far the most common type of loan for a residence. For that matter, I'm not sure balloon loans are even allowed for owner occupied loans.Now, for investment properties, this is more common. And its standard practice for commercial loans. When the "loan balloons", the borrower must either refinance, pay off the loan with their own cash, or sell the property. If you cannot pay off the balloon, the lender will foreclose.

Mike Flora · Answer

Purchase price 100K 10% down equals 10K Loan balance is now 90K To make it easy, let's say $1,000 a month principal only payments WITH A BALLOON PAYMENT AT 10 MONTHS, WHICH MEANS REMAINING LOAN BALANCE DUE AT 10 MONTHS. Remaining balance due is 80K Now when you add interest and amortize a loan past the balloon date when remaining balance due is, then your numbers will be different.

Jay Hinrichs · Answer

the last payment includes the entire balance.. there are some states like CA were its the law that the Beneficiary of the loan must send you a balloon payment notice.. 90 days before the payment is due.. this notice must be in writing.. if they don't send it you can legally extend until you get the notice.. So there may be some little detail like that in your state it would be state specific though.. keep in mind balloon payments are very risky if you do not have a clear cut way to refi or sell.

Andrew Postell · Answer

@Ryan Bradley your description is exactly what a balloon payment is. You pay the full amount when the "balloon" period comes due.

Terry Miller · Answer

You just explained it. I don't know why you thought you didn't understand it.

Chris Mason · Answer

Yup, typically you refinance the private mortgage using a traditional mortgage.Another option is to re-negotiate terms with the entity holding the note. Maybe they will extend it, maybe they will effectively refinance it themselves.If you're doing this seller carried note because you currently cannot get a traditional mortgage, you'd better be very clear on what's going to change between now and 4.5 years from now that'll let you get a traditional mortgage!

Andrew Johnson · Answer

Ryan Bradley At that end point (when the balloon is due) most people will arrange financing for the remaining balance. Typically, you can just roll it over and over when the same bank. The big difference is that the loan will reset that fixed interest rate for the subsequent 5-7 years. What that does impart, is the risk that the interest rate will be higher in the future. You will have paid down some of the principal but most early payments skew heavily towards mortgage interest. So if it’s a “100% seller financed deal!” you’re at the whim of valuation chances (appreciation...or the opposite) materially impacting your ability to get financing at whatever the prevailing interest rate is down the road. Everything looks good in hindsight (the last 5 years have been great for REI appreciation) there’s no guarantee that appreciation will (or won’t) create the necessary equity over the next 5 years. Now, you could run into other financing challenges like DTI ratios, etc. That’s another story all together. The reality is that if you can’t make the balloon payment the seller can foreclose on you and take back the property. 🤷🏻‍♂️

Ryan Bradley · Answer

But how do I pay the full amount of a loan in 5 or 7 years? Is there a way to get a full loan from the bank on the property at that time and then give that $ to the seller?