WE OFTEN HEAR ABOUT THE FAMOUS "BALLOON" IN CAR FINANCING, BUT WHAT EXACTLY IS IT?
A simple trick to understand
In auto finance jargon, "balloon" refers to "negative equity". It's easy to understand: it's the difference between the amount I owe on my car loan and the market value of my car when it comes time to trade it in or sell it.
Here's an Example
Let's take an example: I decide to trade in my compact car for a mid-size car because the family is growing. I still have $15,000 to pay on my loan, but the vehicle is only worth $10,000 on the open market, or at least that's what the dealer offering it in trade is offering me. So my "balloon" is $5,000. To complete the sale, the dealer suggests that I simply roll this $5,000 "balloon" into the financing of my new vehicle.
Legal or Not?
This example is not extreme because some motorists have car loans that include a balloon twice the value of the vehicle purchased !!!! . That's why balloon financing is a controversial but legal practice. However, a dealer who offers to refinance your debt into a new loan must inform you of the implications of this refinancing under Section 148 of the Consumer Protection Act.
A Selling Point
Ballooning is common and a selling point for dealers because it helps close the deal. To make things easier and keep payments low despite a balloon, the consultant will suggest spreading the loan over a longer period of time. The big problem with this seemingly attractive solution is that when the time comes to trade in my car, I'll probably have a huge balance on my loan and an even bigger balloon to finance. It's transactions like this that gradually lead to over-indebtedness.
The Smart Buyer
To avoid this bad financial approach, the wise buyer will match the value of the new vehicle with the term of his financing, opting for a less expensive vehicle if necessary. Better yet, if he or she does this early, he or she will find himself or herself in positive equity, meaning that the vehicle will be worth more than the balance of the loan, which is a very good idea.
A Difficult Situation
However, this is not always possible. In this case, if you are in a difficult financial situation and still need to change your vehicle - because it's sometimes essential for work, especially in the regions - it's best to apply for a car loan with an experienced credit analyst at a reputable dealership in order to get sound advice and a quality vehicle. It's wise to avoid gas station salesmen who want to make a sale at any cost. Instead, focus on financing the vehicle and getting an auto loan that won't keep you up at night.
According to J.D. Power, about one third of all trade-in transactions in 2019 involved a "balloon," and the trend is growing.