The balloon payment is becoming increasingly popular in South Africa. However, if you’re considering this form of car financing, you should think again. Because the long-term impact of a balloon payment could be a series debt trap.
Naked’s Ernest North explains that many consumers go for the balloon payment option without truly understanding it. “Lowering your monthly repayments can help you to stretch your finances to afford a better car. However, that balloon payment lump sum at the end of the term is only getting bigger and bigger. Most often, South Africans find they struggle to afford this final repayment,” says North.
AVOID THE BALLOON PAYMENT
For the uninitiated, a balloon payment is a large amount you agree to repay at the end of your finance term. Typically, 30% to 40% of your vehicle’s value. During the term, you pay lower monthly instalments, but it’s simply because you’re not paying the full loan amount. All the while, interest is accruing to make the final lump sum even bigger.
For example, let’s consider three options when buying a R500 000 car on a six-year (72 month) loan (no deposit and an interest rate of 10.5%):
| Option | Monthly repayment | Lump sum at end | Total cost |
| No balloon | R9 481 | R0 | R682 000 |
| 20% balloon | R8 478 | R100 000 | R710 000 |
| 40% balloon | R7 475 | R200 000 | R738 000 |
TOTAL COST OF CREDIT
As you can see, the balloon payment costs significantly more over the same term. Plus, most buyers cannot afford the final sum and often have to refinance the outstanding balloon. The banks want this to happen, as you enter a new loan agreement and face more years of monthly payments and interest charges.
Beyond a debt trap, there’s a worse-case scenario for the balloon payment. If you want to exit the loan early, you need to be prepared for early settlement penalties and the outstanding balloon payment. And if your car is stolen or written off in an accident during the period, guess what, you still owe the bank that early settlement penalty.
POP THE BALLOON PAYMENT
Ultimately, North warns against the balloon payment to buy a car you can’t actually afford. “Rather, put down a larger deposit or choose a more affordable car. The downside of a balloon payment is very seldom worth the benefit,” concludes North.
