Balloon loans are rising in popularity

Balloon loans are gaining more play among financial institutions as an alternative to leasing, especially in states which impose a property tax on leased products, like Texas.

But there are other differences that could motivate vehicle purchasers to opt for a balloon, says William Hudson, assistant vice-president at Lee & Mason, a finance firm in Hunt Valley, MD.

He says more balloon notes offered by banks, credit unions and financial institutions have been tailored like leases.

That allows payments to be reduced, the vehicle to be "resold" to the lender at end of contract, the balloon to be refinanced or the vehicle used as a trade-in on a new unit.

Also, like a lease, says Mr. Hudson, the amount of the balloon can be repaid, making it equivalent to a lease's residual value.

With a balloon loan, a customer makes payments over a fixed time, such as 36 or 48 months. But the amount of the loan is less than the price of the vehicle.

The unpaid balance remains outstanding at the end of the length of the loan. The customer is then responsible for either paying off the balance or relin-quishing the vehicle and title.

Mr. Hudson says the main difference between the two methods of financing is the issue of ownership.

Balloon loan over-come the stigma attached to leasing by many consumers uncomfortable with what they perceive as "renting" the vehicle because they are without a title.

Another difference stems from how the states levy sales tax. Most states impose it when a lessee decides to pay off the residual at the end of the contract.

But the sales tax is due in full at the beginning of loans, with no tax due if the balloon is paid off.

A third contrast in loans allows lenders to shift contingent liability risk to borrowers, whereas as lessors they "can be vicariously liable for damages caused by lessees," notes Mr. Hudson.

"To date, courts have not extended liability to lenders that financed vehicles owned by someone involved in an accident," he adds.