Interest Rate Cap Structure

AAA

DEFINITION of 'Interest Rate Cap Structure'

Limits to the interest rate on an adjustable-rate loan - frequently associated with a mortgage. There are several different types of interest rate cap structures including an initial, periodic and lifetime interest rate cap structure. The initial cap is a value that limits by what amount the interest can adjust at the mortgage's first interest rate adjustment date. The period cap is a value that limits by what amount the interest rate can adjust at each subsequent adjustment date. The lifetime cap limits the total amount by which the interest rate can adjust over the life of the mortgage.

INVESTOPEDIA EXPLAINS 'Interest Rate Cap Structure'

The interest rate cap structure of a mortgage gives holders protection from large interest rate increases. For example, 5-1 fixed period ARMs usually offer the borrower a choice between a 2-2-6 or a 5-2-5 interest rate cap structure. (The first number refers to the initial cap, the second number to the periodic cap, and the third number to the lifetime cap.) If the fully indexed interest rate on the mortgage were to increase substantially before the first interest rate adjustment date, but stay below a 5% lifetime cap value, the borrower would be better off choosing the 2-2-6 interest rate cap structure. However, the dilemma to this is that borrowers can never truly be certain where interest rates will head next.

RELATED TERMS
  1. Payment Shock

    The risk that a loan's scheduled future periodic payments may ...
  2. Initial Interest Rate Cap

    The maximum amount the interest rate on an adjustable-rate loan ...
  3. ARM Index

    The benchmark interest rate to which an adjustable rate mortgage ...
  4. Lifetime Cap

    The maximum interest rate on an adjustable-rate mortgage (ARM) ...
  5. Discretionary ARM

    An adjustable-rate mortgage on which the lender has the right ...
  6. Two-Step Mortgage

    A mortgage that offers an initial fixed-interest rate for a period ...
RELATED FAQS
  1. What do mortgage lenders use the securitization food chain?

    The phrase "securitization food chain" was made popular by director Chris Ferguson in "Inside Job," a film about the 2007-2 ... Read Full Answer >>
  2. Do mortgage escrow accounts earn interest?

    A bank is not required to pay interest on any escrow accounts (also mortgage impound accounts) it holds for its customers. ... Read Full Answer >>
  3. What role did securitization play in the U.S. subprime mortgage crisis?

    The securitization of subprime mortgages into mortgage-backed securities (MBS) and collateralized debt obligations (CDOs) ... Read Full Answer >>
  4. How often is interest compounded?

    Interest can be compounded on any given frequency schedule. Common interest compounding time frames are daily, monthly, semi-annually ... Read Full Answer >>
  5. How does the loan-to-value ratio affect my mortgage payments?

    Several factors affect the mortgage rate you can obtain when you purchase a home. Lenders analyze credit histories and scores ... Read Full Answer >>
  6. What's the difference between a collateralized debt obligation (CDO) and a collateralized ...

    A collateralized mortgage obligation, or CMO, is a type of mortgage-backed security (MBS) issued by an lender that handles ... Read Full Answer >>
Related Articles
  1. Savings

    Are Equity-Indexed Annuities Right For You?

    Equity-indexed annuities can be confusing to understand, but for conservative investors, they can be valuable savings plans.
  2. Credit & Loans

    4 Steps To Attaining A Mortgage

    It starts with knowing your choices as well as your price range. We show you how to get there.
  3. Insurance

    ARMed And Dangerous

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

    How Mortgage Refinancing Affects Your Net Worth

    Find out how to determine whether refinancing will put you ahead or even more behind.
  5. Economics

    Forces Behind Interest Rates

    Get a deeper understanding of the importance of interest rates and what makes them change.
  6. Investing Basics

    How Interest Rates Affect The Stock Market

    Whether you're buying lunch, a home or a stock, you're influenced by interest rates.
  7. Investing Basics

    Interest Rates And Your Bond Investments

    By understanding the factors that influence interest rates, you can learn to anticipate their movement and profit from it.
  8. Credit & Loans

    Understanding The Mortgage Payment Structure

    We explain the calculation and payment process as well as the amortization schedule of home loans.
  9. Credit & Loans

    Is it Worth Saving Up for a Bigger Down Payment?

    There are numerous low-down-payment mortgage options out there, but sometimes it makes sense to build up your savings so you can borrow less.
  10. Credit & Loans

    Is A 30-Year Mortgage Really Best?

    It's the most popular choice, but home buyers with 30-year mortgages may be paying more to finance their home than they need to.

You May Also Like

Hot Definitions
  1. Fisher Effect

    An economic theory proposed by economist Irving Fisher that describes the relationship between inflation and both real and ...
  2. Fiduciary

    1. A person legally appointed and authorized to hold assets in trust for another person. The fiduciary manages the assets ...
  3. Expected Return

    The amount one would anticipate receiving on an investment that has various known or expected rates of return. For example, ...
  4. Carrying Value

    An accounting measure of value, where the value of an asset or a company is based on the figures in the company's balance ...
  5. Capital Account

    A national account that shows the net change in asset ownership for a nation. The capital account is the net result of public ...
  6. Brand Equity

    The value premium that a company realizes from a product with a recognizable name as compared to its generic equivalent. ...
Trading Center