Hire purchase balloon payments: how they work for your business

A balloon payment is a lump sum your company agrees to pay at the end of a hire purchase (HP) agreement, in return for lower monthly payments. You still owe it, and interest runs on it for the whole term. Here's what a balloon costs, your options when it falls due and the risks to plan for.

In our illustrative example below, a 30% balloon cuts the monthly payment by about £209 but adds about £1,986 in interest over 48 months.

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What is a balloon payment on hire purchase?

A balloon payment is a larger final payment, agreed at the start of a hire purchase agreement, that your company pays to own the asset at the end. Not every HP agreement has one, and the lender owns the asset until it's paid.

With a balloon, the cost of a van, vehicle or piece of equipment splits into three parts:

• A deposit at the start.
• Fixed monthly payments over the term.
• The balloon at the end, after which the asset belongs to your company.

Alternatively, "Standard" HP removes the need for a large balloon payment and instead spreads the whole amount across the monthly payments, usually with a small option-to-purchase fee at the end. Throughout the agreement, the finance company holds legal title to the asset (HMRC VAT Notice 701/49). If you need a refresher on the basics, here's how hire purchase works.

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How is the balloon amount set?

You agree the balloon with the lender when you sign, usually based on what the asset is expected to be worth at the end of the term. Lenders usually set a maximum amount as a proportion of the asset’s original value.

A bigger balloon means lower monthly payments but a larger bill at the end. Ask the lender how it arrived at the figure. If the estimate of the asset's future value is optimistic, your company carries that risk (see what happens if the asset is worth less, below).

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Balloon or no balloon: a worked example

On a £40,000 asset over 48 months, a 30% balloon cuts the monthly payment from about £896 to £687. Total interest rises from about £7,001 to £8,988, because your company is borrowing the value of the balloon payment for the whole term.

The figures below are illustrative, not a quote. They assume a 9% a year interest rate, a £4,000 (10%) deposit and prices excluding VAT. Your lender's rate and fees will differ.

So the balloon frees up about £209 a month, and that's the real benefit if you're looking to protect monthly cash flow. The trade-off is about £1,986 more interest, plus a £12,000 bill your company has to plan for.

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HP with a balloon, lease purchase and PCP: what's the difference?

HP with a balloon (often called lease purchase) means your company must pay the balloon. A PCP-style agreement lets you hand the asset back instead of paying the final sum, because the final amount is a guaranteed future value.

The difference matters for tax too. HMRC can treat agreements with a large optional final payment, like PCP, as a lease for VAT rather than a sale of goods (HMRC VATTOS9250). If you're also weighing up leasing, compare hire purchase vs a finance lease.

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What are your options when the balloon payment is due?

When the balloon falls due, your company can pay it from cash, refinance it with your HP lender, cover it with a separate business loan, or sell or part-exchange the asset and use the proceeds.

iwoca doesn't offer hire purchase or asset finance, so we can't refinance an HP agreement. What we can offer is a separate loan. An iwoca Flexi-Loan is a business loan with flexible repayment options: your company can borrow £1,000 to £1 million, over up to five years, for any business purpose, including a balloon or a deposit on a used asset. You'd get a decision within 24 hours, and you can repay early with no early repayment fees.

Every new Flexi-Loan needs a personal guarantee from at least one director. That means the director is personally liable if the company can't repay.

Because your HP lender already holds the asset as security, its refinance quote may cost less. Compare the total cost of both options, not just the monthly payment, before you choose.

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What if the asset is worth less than the balloon?

If the asset is worth less than the balloon, your company still owes the full balloon, so selling the asset won't clear the debt and you'll need to fund the gap from elsewhere.

For example, if a van with a £12,000 balloon would only sell for £9,000, your company still needs £3,000 to settle. Unlike a PCP, the lender doesn't guarantee what the asset will be worth. Keeping the asset in good condition, and choosing a smaller balloon, both reduce this risk.

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What happens if you can't pay the balloon?

Speak to your lender before the due date. If the balloon goes unpaid, the lender can take the asset back and ask your company to pay any shortfall.

Limited companies have fewer protections here than individuals. The Consumer Credit Act 1974 only covers "individuals", which excludes companies (Consumer Credit Act 1974, s.189). So rights like voluntary termination, which let a consumer hand goods back and limit what they owe, generally don't apply to your company's agreement. Check your agreement's own early-settlement terms instead. Business Debtline gives free advice to businesses with HP debts.

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Is a balloon payment right for your business?

A balloon suits a company that wants lower monthly costs now, expects the asset to hold its value and has a realistic plan for the lump sum. It's a poor fit if cash flow is already tight or the asset loses value fast.

It could suit you if:

• Your company needs the asset now but wants to keep more cash each month.
• The asset is likely to be worth at least the balloon at the end.
• You can see where the money for the balloon will come from.

It's probably not for you if:

• Your monthly cash flow is already stretched.
• The asset wears out or loses value quickly.
• You'd rather pay less interest overall.

Whichever you choose, put the balloon date in your forecast from day one. Planning for it is part of managing your cash flow.

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VAT and capital allowances on hire purchase with a balloon

Standard HP is usually treated as a supply of goods, so VAT on the full price is charged at the start of the agreement and a VAT-registered company can normally reclaim it then. For capital allowances, your company is treated as the owner once the asset is in use.

On VAT, the interest isn't subject to VAT when it's shown separately on the agreement (HMRC VAT Notice 701/49). That upfront VAT can be a large sum, so plan for it alongside the deposit. Here's more on reclaiming VAT. Cars follow stricter VAT rules, so check those with your accountant.

On capital allowances, HMRC treats your company as the owner of plant and machinery bought on HP from when it's entitled to use it, even though legal ownership only passes at the end (Capital Allowances Act 2001, s.67). Lease purchase agreements that let you buy the asset at market value at the end work differently: there are no allowances until your company actually buys it. Tax treatment depends on your agreement, so check it with your accountant.

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Managing hire purchase payments during the term

Check your agreement for early-settlement terms before you overpay, ask the lender how any payment break changes the total, and contact them early if your company might miss a payment.

• Overpaying or settling early: some agreements let you pay extra or settle early, which can cut the interest. Check for early settlement fees first.
• Payment holidays: if trade slows, some lenders may agree a temporary break. Ask whether interest keeps running and how the break changes the total cost and the balloon.
• Missed payments: late payment charges vary by lender, and repeated missed payments can affect your company's credit file and lead to the lender taking the asset back. Talk to your lender as soon as you see a problem coming.

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FAQs on hire purchase balloon payments

These are the questions limited companies ask most about balloon payments, with short answers.

Can you pay a balloon payment in instalments?

Not under the original agreement, because the balloon is due in one go. You can ask your lender to refinance it into a new set of monthly payments, or use a separate business loan to spread the cost.

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How is hire purchase different from an instalment (credit) sale?

With a credit sale, your company owns the item from the start and pays for it in instalments. With hire purchase, your company hires the asset and only owns it once every payment, including any balloon, has been made.

There's also conditional sale, where you own the item once the full price is paid but there's no separate option to buy. All three are defined in HMRC VAT Notice 701/49.

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Which lenders offer hire purchase with a balloon?

Banks, specialist asset finance companies and the finance arms of dealers offer HP with a balloon. iwoca doesn't, so it's worth comparing quotes on rate, fees and the maximum balloon. You can compare equipment finance providers to start.