A low monthly mortgage payment is a common goal among homebuyers. Knowing this, some lenders offer loans that contain a balloon payment. Balloon payment loans provide homebuyers with reasonable monthly payments and often allow buyers to qualify for a larger mortgage loan. These loans come with a catch, however, as the homeowner must pay a much larger than normal payment to the lender at some point during the mortgage term. Because of this, many consumer advocacy organizations consider mortgage balloon payments an example of predatory lending.

Check the Mortgage Paperwork

The Truth in Lending Act requires lenders to disclose, in writing, all of the terms and conditions associated with a given mortgage transaction prior to closing. Lenders must present consumers with a copy of the mortgage loan agreement a minimum of three days prior to closing. The Truth in Lending Act does not, however, require lenders to verbally disclose each term and condition of the loan. Reviewing your loan documents is imperative to prevent a balloon payment from taking you by surprise.

When Is the Balloon Payment Due?

Depending on the terms of a balloon mortgage, the lender may call the balloon payment due at any time. While some balloon mortgages do not require you to pay the balloon payment until the end of the mortgage term, most balloon mortgages require the balloon payment after five to seven years. This provides you with several years to either save up for the balloon payment or increase your financial stability to a level in which the larger payment fits into your budget.

Mortgage Reset Options

According to mortgage insurer Freddie Mac, options exist should you find yourself unable to pay your mortgage’s balloon payment when it comes due. If your mortgage carries a “reset option,” you can avoid the balloon payment by resetting the interest rate on your loan for the remainder of the mortgage. Reset options are often only available to homeowners who demonstrate a solid history of timely payments and whose homes do not reflect additional liens. Qualified borrowers may also refinance their mortgages to avoid paying a balloon payment.

Avoiding the Balloon Payment

If your lender does not offer a reset option for your mortgage loan, refinancing your mortgage, selling your home or taking out a second loan are often your only options for avoiding the balloon payment. The Federal Trade Commission warns, however, that if home values in your area decrease, you may not have enough equity in your home to refinance. In the event that you do refinance or take out a second loan to cover the balloon payment, the closings costs and fees associated with the new loan could exceed the balloon payment itself.

Before you sign your loan documents, be aware that accepting a loan that carries a balloon payment may put your home in danger. These loans typically only require you to pay the interest that your mortgage loan accrues each month. This keeps the monthly payment low but prevents you from paying down the loan’s principal. If you are unable to pay the balloon payment when it arrives, your lender has the right to foreclose on your home.