Annual Cap

AAA

DEFINITION of 'Annual Cap'

A clause found in the contract of an adjustable-rate mortgage (ARM) that limits the possible increase in the loan's interest rate to a certain amount each year. The cap is usually defined in terms of rate, but the dollar amount of the principal and interest payment can be capped as well. Annual caps are designed to protect borrowers against a sudden and excessive increase in the amount of their monthly payments when rates rise sharply over a short period of time.

INVESTOPEDIA EXPLAINS 'Annual Cap'

A loan with an annual rate cap will only increase by so much in terms of percentage points regardless of how much rates actually rise. A 5% ARM with a 2% cap can only adjust to 7%, even if rates increase by 4% over the initial fixed term of the loan. A loan with a dollar cap can only increase by so much as well, although this type of cap can lead to negative amortization in some cases.

RELATED TERMS
  1. Annuity

    A financial product that pays out a fixed stream of payments ...
  2. Payment Shock

    The risk that a loan's scheduled future periodic payments may ...
  3. Lifetime Cap

    The maximum interest rate on an adjustable-rate mortgage (ARM) ...
  4. Insurance

    A contract (policy) in which an individual or entity receives ...
  5. Cap

    The highest point to which an adjustable rate mortgage (ARM) ...
  6. Adjustable-Rate Mortgage - ARM

    A type of mortgage in which the interest rate paid on the outstanding ...
RELATED FAQS
  1. How did the financial crisis affect the oil and gas sector?

    The financial crisis had a negative impact on the oil and gas sector as it led to a steep decline in oil and gas prices and ... Read Full Answer >>
  2. What is the difference between a bank's liquidity and its liquid assets?

    A company's liquid assets can easily be converted into cash to meet financial obligations on short notice. Liquidity is the ... Read Full Answer >>
  3. How are risk weighted assets used to calculate the solvency ratio in regulatory capital ...

    Risk-weighted assets are the denominator in the calculation to determine the solvency ratio under the provisions of the Basel ... Read Full Answer >>
  4. What happens when a company defaults on its commercial paper obligations?

    As a practical matter, the Issuing and Paying Agent, or IPA, is responsible for reporting the commercial paper issuer's default ... Read Full Answer >>
  5. What kinds of financial instruments are designated as “Securities” by Cabinet Order?

    In Japan, securities are regulated by the Diet and the Financial Services Agency, or FSA. Rulings about securities come down ... Read Full Answer >>
  6. Can small investors buy collateralized mortgage obligations (CMOs)?

    Collateralized mortgage obligations (CMOs), which are pools of mortgage-backed securities (MBS), are available to smaller ... Read Full Answer >>
Related Articles
  1. Insurance

    ARMed And Dangerous

    In a climate of rising interest rates, having an adjustable-rate mortgage can be risky.
  2. Credit & Loans

    Mortgages: Fixed-Rate Versus Adjustable-Rate

    Both of these have advantages and disadvantages depending on your financial needs and prospects.
  3. Options & Futures

    This ARM Has Teeth

    Find out how to avoid getting bitten when your mortgage rate resets.
  4. Options & Futures

    Subprime Is Often Subpar

    Proceed with caution when considering these short-term, high-interest mortgages.
  5. Home & Auto

    Buying a Home? The Best Places Share This Feature

    The most lucrative areas to invest in a home are cities where job growth is robust.
  6. Credit & Loans

    What is an Unsecured Loan?

    An unsecured loan is based on the creditworthiness of the borrower, and has no collateral securing the loan.
  7. Home & Auto

    What Are The Tax Advantages Of Buying A Home?

    Don't forget these deductions and credits that homeowners can use to reduce their tax bill.
  8. Investing

    Market Crisis: Does Diversification Still Work?

    If you still aren’t sold on the benefits of international diversification, you may object that: Diversification didn’t work during the last market crisis.
  9. Home & Auto

    Swimming Pools: Costs Vs. Long-Term Value

    Consider the costs of installing and maintaining a swimming pool, and compare this with the pool's utility and the market value it adds to your home.
  10. Credit & Loans

    How To Finance Foreign Real Estate

    If you don't pay cash, financing real estate abroad is likely to cost more than at home. Watch for local laws and be sure your rights are protected.

You May Also Like

Hot Definitions
  1. Net Worth

    The amount by which assets exceed liabilities. Net worth is a concept applicable to individuals and businesses as a key measure ...
  2. Stop-Loss Order

    An order placed with a broker to sell a security when it reaches a certain price. A stop-loss order is designed to limit ...
  3. Covered Call

    An options strategy whereby an investor holds a long position in an asset and writes (sells) call options on that same asset ...
  4. Butterfly Spread

    A neutral option strategy combining bull and bear spreads. Butterfly spreads use four option contracts with the same expiration ...
  5. Unlevered Beta

    A type of metric that compares the risk of an unlevered company to the risk of the market. The unlevered beta is the beta ...
  6. Moving Average - MA

    A widely used indicator in technical analysis that helps smooth out price action by filtering out the “noise” from random ...
Trading Center