Balloon payment bubble can pop

Buying a car: Rather put down a larger deposit or get a more affordable vehicle

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It is so tempting. That lovely, shiny car will cost so much less per month and by the time the balloon payment comes around, you can always trade it in and pay off the balloon payment. And buy another new, shiny car with its own balloon payment. How could this be a debt trap?

If you consider choosing a balloon payment when financing a new car, you are not alone. South African banks report that as many as a third of car loan customers choose the maximum balloon payment to reduce their monthly repayments.

However, Ernest North, co-founder of car and home insurance platform Naked, said it is wise to consider the long-term impact before committing to a balloon payment for your new car.

"Balloon payments have become increasingly popular in South Africa due to the rising costs of living, including the higher costs of car purchases and ownership.

"However, many consumers go for a balloon payment without understanding that they could get caught in a debt trap four or five years down the line."

North said although lowering your monthly repayments can help you to stretch your salary a bit further and potentially afford a better car, the lump sum at the end of the loan term is the sting in the tail.

"While a balloon payment can be a useful financial planning tool, many people struggle to afford the final repayment."

A balloon payment is a large amount that you agree to repay at the end of your car finance term, usually between 20% and 35% of the car's value, with 40% being the maximum most banks would allow.

During the term, you pay lower monthly installments, but it is because you are not paying off the full loan, just a portion of it.