Lifetime cap explained

Lifetime caps limit the risks associated with the substantial interest rate increases over the life of the mortgage for the borrower, but can generate interest risk for the lender if rates rise sufficiently.

Lifetime caps are part of an ARM’s interest rate cap structure and may take several forms. Lenders have the flexibility to customize interest rate limits along with the initial, periodic, and life caps.

Lifetime cap process

There are many different types of mortgage products available on the market. Borrowers have the option of fixed-rate products, where the interest rate is constant throughout the term of the loan. Since the rate is constant, people with fixed-rate mortgages are able to predict the costs associated with their mortgages. Interest rates for adjustable-rate (variable) mortgages, on the other hand, vary throughout the life of the loan. It is constant for the initial period, after which it adjusts at regular intervals until the loan is paid off.

Summary of lifetime cap

Understanding the lifetime cap informs the strategy the borrower uses to fund a real estate purchase. Starting interest rates for ARMs are generally lower than rates for fixed-rate mortgages, inducing borrowers to choose the ARM. If the lifetime cap on an ARM is higher than the borrower wants to pay monthly, the borrower may decide to refinance the mortgage before the initial rate increase period is due. In this way, they can get the lower initial rate but switch to a new mortgage before the higher rates apply.

While the lifetime cap is important to understand, it is only one of the figures which determine the structure of an adjustable-rate mortgage. Other significant terms for the borrower to know include:

• An initial interest rate, which is an introductory rate on an adjustable or floating rate loan, typically below the prevailing interest rates, which remains constant for a period of six months to 10 years.
• The initial adjustment rate cap is the maximum amount the rate may move on the first scheduled adjustment date.
• A periodic adjustment rate is a maximum adjustment allowed during one adjustment interval of an adjustable-rate loan.
• The rate floor is the agreed-upon rate in the lower range of rates associated with a floating rate loan product.

If you have any other questions regarding Lifetime Caps contact the mortgage experts at 864-397-8500 or click Mortgage Rates Today!