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Video: Beware balloon payments

by | Jan 7, 2020

Balloon payments are a way for consumers to buy a car they cannot really afford, and the real cost is seldom understood.

A balloon or residual payment is a portion of the selling price that is payable at the end of the agreement.

A dealership may offer this option as it allows you to pay a lower monthly instalment. However, taking a balloon payment actually increases the total cost of the car finance.

For example, you find a car that you really like for R500 000. The monthly instalment over five years is R11 400. You cannot afford this, so the dealer suggests that you take a 30% balloon payment option.

This means that R150 000 is put aside to be paid at the end of the agreement and so you only repay R350 000 of capital over the five-year period.

This drops your monthly repayment to R9 700. So now the car becomes “affordable”. What people do not realise is that not only do you owe the full balance of R150 000 at the end of the financing period, but that R150 000 is attracting interest which is added to your monthly repayment. Over five years you will pay R48 000 more in interest as a result of taking a balloon payment.

If you do not opt for a balloon payment, over five years the car will cost you R684 000. With a balloon payment you pay R582 000 in monthly instalments plus the R150 000 at the end of the period – a total of R732 000.

If you cannot come up with the R150 000 balloon payment, you may end up financing your car for a further two or three years increasing the costs.

If you have already signed up for a balloon payment, ask your bank if you can pay in an additional amount each month towards settling the balloon payment.  Alternatively, open a savings account now and start putting money aside so you have the cash when it becomes due.

9 Comments

  1. If there is a balloon payment of R170,000 due in 2027 but I have the capital now, can I settle the balloon payment now? What are the advantages? Will it reduce my monthly repayment and/or term?
    Or is it better to put that R170k in an investment until 2027 and use the original capital of R170k to pay the balloon and still have the growth in the investment for other goals?

    Reply
    • it does depend who the financing is with. Absa allows you to settle the balloon payment before the capital but Wesbank does not. So best to ask the finance house how they work. Either way you will save significantly on interest. even if you settle the capital amount (not the balloon) and maintain the normal repayment amount, you will shorten the finance period and you would then start to pay off the balloon. At current interest rates it would be difficult to find an investment that would give you a return greater than the interest you are paying. My only suggestion would be that you do not use all your liquidity to settle the balloon, make sure you have some emergency funds available.

      Reply
  2. Hi Maya
    My car’s balloon payment is due in March. It is about R90k. I’m selling a share in a property and will have about R70k to pay towards that before the end of October. My question (since MFC’s call centre agent can’t answer me)
    1) If I pay the R70 k now, can I specify that it should go to the balloon payment?
    2) Will I save anything by paying it earlier than due?
    3) Or will I pay a penalty fee if I pay it earlier?
    Thank you

    Reply
    • You always save money by paying in earlier as less interest is charged. All banks have different ways with allocating to a balloon payment, but if you pay in the R70k and keep up with your current installment, then you will have a positive balance of R70k in March which you can allocate to the balloon

      Reply
  3. Hi Maya

    I wanted to get a view, should I buy a call vehicle now or wait until the corona virus national disaster has passed and the economy starts looking up.

    Reply
    • If you think your income may be in jeopardy then rather wait. However, if not, now may be a time to get a good deal. But of course only after lockdown is over…

      Reply
  4. Valuable calculations, thank you!

    Would be good to get examples on when this option would be good to use…

    Reply
    • It was actually created for managing fleets (ie: for companies) but really has no place in financing for individuals

      Reply
  5. Valuable and informative

    Reply

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Maya Fisher-French author of Money Questions Answered

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