Balloon Payment Explained

A Balloon Payment is the term used for a final payment at the end of a Lease Purchase or Personal Contract Purchase (PCP) agreement which must be paid in order to take ownership of a car. Below, we explain exactly what a balloon payment is and how it works, including some handy resources to help explain it further.

Creditplus Definition of a Balloon Payment

As described above, a balloon payment is a large final payment at the end of a Lease Purchase or PCP contract which must be paid in order to take ownership of the vehicle. In a Lease Purchase agreement, the customer must either pay the balloon payment, or they can re-finance the payment. In a PCP agreement, the customer has the option to either make the balloon payment and take ownership of the car, hand the car back to the leasing company, or part-exchange the car and use any equity left in the vehicle to go towards the deposit for a new car finance agreement.

How is a balloon payment calculated?

A balloon payment is based on the residual value or guaranteed future value of the vehicle. This is agreed at the start of the car finance agreement, and is based on trade guides which give future predictions based on a number of factors such as the make and model of the vehicle and how past models of the car have performed. It also takes into account mileage and the condition of the car.

In PCP agreements these factors are controlled by the leasing company by setting a mileage limit and condition requirements should the customer choose to hand the car back rather than make the balloon payment. If the customer chooses to make a balloon payment then the extra charges will not apply, as the final payment will reflect the expected mileage and condition set from the start, with the customer taking responsibility if the real value of the car is less than the predicted residual value.

When is a Balloon Payment required?

Car finance agreements which include a balloon payment are generally only offered to those with good credit, who want to purchase a new or nearly-new vehicle. These kind of agreements (PCP and Lease Purchase) can mean that monthly repayments are generally lower compared to the equivalent Hire Purchase agreement repayments. However, it's important to be mindful of the requirements at the end of the contract, including the balloon payment, especially in a Lease Purchase agreement where it is not optional.

Whilst many customers will choose to re-finance the balloon payment sum by taking out another loan secured against the car (usually a Hire Purchase agreement) this may not always be possible. This can depend on your credit score and whether or not you have made all your car finance payments on time to date. In this situation, you will need to pay the balloon payment in full so it's worth exploring how you would intend to fund it, especially if the resale value of the car is not as much as the value of the balloon payment.

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