A balloon mortgage is any mortgage that has a balance due at the end of its term. Balloon mortgages have many features in common with fixed rate mortgages. Balloon mortgages typically have a fixed interest rate and fixed payment that is calculated over a 30 year amortization schedule. The balloon payment comes into existence because the loan's term is shorter than 30 years and there is typically a large balance due at the end of the loan.
Conforming and Jumbo Balloon Mortgages
Similar to other mortgages, balloon mortgages can be conforming or jumbo (nonconforming). Conforming refers to a loan whose amount is less than or equal to loan limits set by the Federal National Mortgage Association (FNMA or Fannie Mae) and the Federal Home Loan Mortgage Corporation (FHLMC or Freddie Mac). This loan limits change in January of every year. As of 2006 the limits were:
Please note: The loan limits for Conforming 1 to 4 family loans in Alaska, Hawaii, Guam, and the U.S. Virgin Islands are fifty percent higher.
A nonconforming balloon mortgage is a balloon mortgage that is over these limits.
Balloon Mortgage Term
Balloon mortgages typically have a term of five, seven, or ten years, and an amortization schedule to calculate payments of 30 years. At the end of five, seven, or ten years the balloon payment comes due. Most borrowers who use balloon mortgages either plan on selling the home prior to the balloon payment coming due, or plan to refinance at the due date.
There are variations on the theme. Some lenders now offer 40/30 balloon mortgages. This would be a mortgage whose payment is calculated on a 40 year amortization schedule that comes due in 30 years.
Balloon Mortgage Options
Some balloon mortgages allow the loan to convert to a standard 30 year fixed mortgage at the end of its balloon term. Typically certain conditions much be met like a good 24 month payment history to allow conversion. The conversion is typically at the market rate plus some slight markup. There may be a processing fee to convert the loan. Popular balloon mortgages are the 5/25 balloon (balloon payment due in 5 years, will convert to a fixed rate mortgage for the remaining 25 years), and the 7/23 balloon (balloon payment due in 7 years, will convert to a fixed rate mortgage for the remaining 23 years).