Cap

A cap is the limit in which an interest rate or monthly payment can increase in a loan on an adjustable rate mortgage. Most adjustable rate mortgages, or ARMs, have an initial interest rate and a set period in which the interest rate will not change. After the conclusion of this period, the rate can change based off of indices used by the mortgage company. The cap is a tool used in the agreement between the lender and the buyer to ensure that the buyer's monthly payment will not balloon over a set amount. Most mortgage companies set a cap that states the lender cannot increase the interest rate by more than five or six percent over the life of the loan. The benefit of an ARM is that it allows a buyer to make lower initial payments if they are willing to risk higher future payments.