With homeownership come big responsibilities and a big dent on your wallet. Your real estate agent or broker can work out special arrangements between you and your preferred home lender to make mortgage payments easier and more affordable if you lack the financial arm to buy a new home. One such option is to choose a fixed-balloon mortgage.
A fixed-balloon mortgage allows the homeowner to pay only the monthly interest rate for a specified period, usually five, seven or 10 years, during the early stage of the amortization period. After the initial term expires, the remainder of the balance is due in one lump sum, or "balloon payment." For example, a "15/10" balloon mortgage would have monthly payments as if the mortgage would amortize in 15 years. However, at the end of the 10th year, the remaining balance becomes due. Payments made before the 10th year often only pay the interest. The borrower will then have the option to pay off or refinance the remaining balance. Typically, homeowners refinance or sell the property before the end of the initial term.
Types of Balloon Mortgages
Balloon mortgages come in two types. The first one is an interest-only loan in which payments pay only the fixed interest amount, and no portion of the payment goes toward the principal. The second type involves partial amortization of the mortgage amount; this is also known as a roll-over mortgage, which is a short-term loan, usually three to five years. Refinancing of the loan is necessary at the end of the stated period.
Benefits of a Fixed-Balloon Mortgage
A fixed-balloon mortgage can benefit you if you don’t intend to own the property for the full mortgage term. You might be able to purchase a more expensive house with a fixed-balloon mortgage than you would with a 30-year fixed mortgage because you may qualify at the low initial rate even if you cannot qualify for a loan on that house with a 30-year fixed rate mortgage. A fixed-balloon mortgage is also a wise strategy for you if you're expecting future higher income or lower interest rates at the end of the amortization term. In that case, you can apply for mortgage refinancing at affordable or drop-down interest rates.
Pitfalls of a Fixed-Balloon Mortgage
A fixed-balloon mortgage is a light payment plan for borrowers; however, it has certain consequences attached to it. One disadvantage is that the lender may not approve your application for refinancing, especially if you have been late with your mortgage payments, damaged your credit rating, have lower income or higher debt (raising your debt-to-income ratio), or your property has declined in value. If the due date happens to come up during a period of high interest rates, you could be stuck with an expensive fixed rate.
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