What are “caps”?
A. The amount by which the interest rate charged on an ARM can change from one change date to the next (or over the entire life of the loan) is typically limited by what are called “caps”. There are “per change caps” and “lifetime caps”. The “per change cap” limits the amount by which the interest rate can be increased or decreased from one change date to the next. Thus, in our example, if an ARM has a “per change cap” of 2 and adjusted annually, the new interest rate on the first change date would be 8.25%, even though the fully indexed rate might be 9.77%. This is because the rate can never increase by more than 2 percentage points on any one change date. The maximum possible interest rate on an ARM is determined by the “lifetime cap”. Thus, if an ARM has a lifetime cap of 6 percentage points and a start rate of 6.25%, the maximum interest rate to which the loan could increase would be 12.25% (6 percentage points greater than the start rate of 6.25%). Caps are often expressed as two
“Caps” are associated with Adjustable Rate Mortgages (ARMs). Caps limit how much the interest rate can increase or decrease. Periodic Caps limit the increase or decrease per adjustment period, whereas a lifetime Cap limits the amount the rate can increase over the life of the loan. For example, Scituate Federal Savings Banks ARM programs stipulate that the interest rate on an ARM can increase or decrease up to 2% per adjustment period, but not more that 4% over the life of the loan.
