A balloon payment refers to a payment made on a loan which is a very large amount. It usually refers to a kind of loan repayment structure wherein the borrower does not pay significant amounts (relative to the total sum of the loan) until the loan matures. At the end of the repayment period, that is when the borrower is required to pay off the entire amount - the balloon payment. Another term for balloon payment is bullet payment.
In this kind of loan repayment scheme, the main advantage is that the borrower is given time to breathe before having to shell out significant amounts of money on payments. However, small payments are still made throughout the duration of the loan. These payments go towards the interest, though, and not towards the principal. Another advantage of balloon payments is the fact the interest rates applied are usually lower than other kinds of loans. More so, while there is that breathing period, the borrower will have to pay off the entire amount when the loan matures. Depending on the loan amount, this can be a very huge sum. It is the borrower’s responsibility to allocate his resources in order to be able to afford the balloon payment.
Balloon payments are the opposite of amortizations. In the latter scheme, the entire loan amount is divided by the number of months of the repayment period. The borrower then has to pay smaller monthly payments for the duration of the loan. The interest is tacked on to these monthly payments as well.