A fixed-rate loan is amortized over 30 years but requires the remaining balance after 7 years. What feature does it contain?
Correct Answer
C) A balloon payment
Why this is correct: A balloon payment is a lump-sum payment of the remaining principal balance due at a specific point in the loan term, which is earlier than the loan's amortization schedule. Here, payments are calculated as if the loan will be paid off over 30 years, but the contract requires the full remaining balance to be paid after only 7 years. This mismatch defines a balloon payment feature. Why the other choices are wrong: "Automatic negative amortization" is wrong because negative amortization occurs when payments are insufficient to cover interest, causing the balance to grow—this is not described. "A 7-year adjustable rate" is wrong; the question describes a fixed-rate loan, and an adjustable rate would change periodically, not necessarily create a balloon. "An escrow waiver" is wrong; an escrow waiver relates to paying taxes and insurance directly, not to the loan's repayment structure. Exam tip: Key phrase: "amortized over X years but requires the remaining balance after Y years" (where Y is less than X). That's the classic definition of a balloon mortgage.
Why This Is the Correct Answer
Why this is correct: A balloon payment is a lump-sum payment of the remaining principal balance due at a specific point in the loan term, which is earlier than the loan's amortization schedule. Here, payments are calculated as if the loan will be paid off over 30 years, but the contract requires the full remaining balance to be paid after only 7 years. This mismatch defines a balloon payment feature. Why the other choices are wrong: "Automatic negative amortization" is wrong because negative amortization occurs when payments are insufficient to cover interest, causing the balance to grow—this is not described. "A 7-year adjustable rate" is wrong; the question describes a fixed-rate loan, and an adjustable rate would change periodically, not necessarily create a balloon. "An escrow waiver" is wrong; an escrow waiver relates to paying taxes and insurance directly, not to the loan's repayment structure. Exam tip: Key phrase: "amortized over X years but requires the remaining balance after Y years" (where Y is less than X). That's the classic definition of a balloon mortgage.
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