A balloon payment is the lump sum due at the end of a business loan or equipment finance agreement whose regular payments do not fully pay it off. Payments are calculated over a longer period than the actual term, and the remaining balance falls due at maturity. Sandland Credit, a small-business funding broker in Grand Junction, CO, explains how to plan for one.
| What it is | The remaining balance, due in one payment at maturity |
|---|---|
| Why it exists | Regular payments are calculated over a longer period than the term |
| Where it appears | Commercial term loans, real estate loans, some equipment loans and EFAs |
| Main risk | Not having the cash, or a refinance, when it falls due |
What a balloon payment is
Most business loans are fully amortizing: each regular payment covers interest and part of the principal, and the last payment brings the balance to zero. A balloon loan is different. Its regular payments are calculated as if the loan ran for a long period, say ten years, but the loan actually comes due sooner, say after five. When it matures, the principal not yet paid down is due in one lump sum. That lump sum is the balloon.
A worked example, with no interest
To show the structure without implying any rate, here is a hypothetical with zero interest. It is arithmetic, not an offer.
| Fully amortizing over 48 months | Balloon: 48-month schedule, due at month 24 | |
|---|---|---|
| Monthly payment | $250 | $250 |
| Payments made | 48 | 24 |
| Paid through regular payments | $12,000 | $6,000 |
| Due at the end | $0 | $6,000 balloon |
Real loans charge interest, and that makes the balloon larger than this simple split suggests. Early payments go mostly to interest, so less principal is paid down in the first years, and more of the original amount is still owed when the balloon falls due. The balloon payment calculator explains how to work it out with interest.
Reading an amortization schedule with a balloon
Ask the lender for the full schedule. Each row shows the payment number, the payment, the interest portion, the principal portion and the remaining balance. On a balloon loan, the regular rows look like those of a longer loan, and the final row shows one large payment equal to the remaining balance. Read three numbers: the regular payment, the remaining balance just before maturity, and the date it is due.
Where balloons show up
- Commercial term loans, especially for larger amounts, where a lender wants to review the business again after a few years. See business term loans.
- Commercial real estate loans, which often run for a shorter term than their amortization period.
- Equipment loans and equipment finance agreements, where a final payment can be sized to the equipment's expected value at the end of the term. See equipment financing.
- Leases are not balloon loans, but a lease's end-of-term purchase option works in a similar way: a final amount if you want to keep the equipment.
Why a business might choose one
Lower regular payments leave more cash for operations while a new location or machine is still building revenue. A balloon can also suit a business that expects a specific event before maturity, such as selling the asset, collecting a large receivable or refinancing once the business has more history. The structure makes sense when there is a realistic plan for the final payment, not a hope.
Building a cash plan for the balloon
The safest way to meet a balloon is to treat it as a bill that arrives on a known date and save toward it. Using the zero-interest hypothetical above, a $6,000 balloon due at month 24 means setting aside $250 a month from the first payment onward, in effect the same as a fully amortizing payment, but with the cash staying in your account until the due date.
A business that cannot set aside anything toward the balloon is relying entirely on refinancing or selling the asset. That may still work, but it should be a conscious choice, made with a backup plan, rather than something discovered in the final months of the term. Put the maturity date in your calendar and start talking to the lender at least a few months before it.
Can you finance a balloon payment?
Often the plan is to refinance the balloon into a new loan. That can work, but it is never automatic. At maturity the lender, or a new one, will review the business again, and rates, the business's results and the value of any collateral may all have changed. If refinancing fails, the full balloon is still due.
Other ways to meet a balloon include paying it from savings built up over the term, selling the financed asset, or negotiating an extension with the lender before the due date. Start that conversation months ahead, not weeks.
Questions to ask before you sign
- How large will the balloon be, and on what date is it due?
- What does the lender expect you to do at maturity: pay, refinance, or extend?
- Is there a prepayment charge if you pay down principal early to shrink the balloon?
- What happens if the balloon is not paid on time?
- How does the total cost compare with a fully amortizing loan for the same amount?
This guide is general information; an accountant can help you plan cash for the final payment.
By Sandland Credit · Updated