In some respects, a balloon loan looks very much like a 30-year fixed-rate mortgage (FRM). The payments are calculated in exactly the same way. In both cases, the payment is the amount required to pay off the mortgage in full over 30 years. Where the two instruments differ is that, after a specified period, generally 5 or 7 years, the outstanding balance (the "balloon") has to be repaid in full.

In 2006, 15-year balloons became fairly common, but as the second mortgage component of piggyback arrangements used to avoid payment of mortgage insurance on loans with down payments of less than 20%. The financial crisis that erupted in late 2007 resulted in the disappearance of piggyback balloons.

For example, on a $100,000 loan at 6%, the payment on a 7-year balloon and a 30-year FRM is $599.56. On the balloon, however, the balance of $89,638 after 7 years has to be repaid in full. If the borrower is still in the house, unless he has come into a windfall, the balloon loan must be refinanced.

In other respects, a balloon mortgage resembles an adjustable rate mortgage (ARM) with an initial rate period equal to the balloon period. A 7-year balloon, for example, is usually compared to a 7-year ARM. Both have a fixed-rate for 7 years, after which the rate will be adjusted. The two instruments can be viewed as close substitutes, with advantages and disadvantages relative to each other. I would select the balloon only if I were 90% sure that I would be out of the house before the end of the balloon period. If I was less sure, the small price advantage of the balloon would not compensate for the greater risk.