A bubble loan, also known as a balloon loan, is a loan that you pay off with one single, final payment. The loan does not fully amortize over its term, making this kind of loan more attractive to short-term borrowers.
That's because these loans generally have lower interest rates than loans with longer terms, since you'll pay smaller payments and then one larger payment. The biggest downside to one of these loans is if you choose to refinance, since the loan might reset at a higher interest rate.
There are multiple types of loans that can be bubble loans, but usually, they are mortgages. They generally have short terms usually from around five to seven years rather than the typical ten to thirty required by most mortgages. When you make the monthly payments on a bubble loan, they aren't expected to cover the entire loan repayment. The monthly payments will instead be calculated as though the loan was a 30-year loan, and at the end of the seven-year term, since you'll only have paid off a fraction of the principal balance, you'll pay the rest all at once.
You can make this payment by selling the home or by taking out a new loan to refinance the rest of the mortgage. You can always make the payment in cash, too, if you have the funds on hand to do so.
Going for a bubble or balloon loan is ideal because it lets you avoid high interest rates with a smaller monthly payment. You don't have to commit to paying thirty years at that rate since you'll be able to refinance once the shorter loan period is over.
Of course, this kind of loan can also be risky. Not all lenders will finance the balloon payment at the end of the loan term – and if property values fall between when you buy and when the loan term expires, you risk defaulting on the loan because you aren't able to sell the home for as much as what you paid for it.