A life cap refers to the maximum percentage points that an interest rate can increase throughout the life of a home loan. For example, if an adjustable-rate mortgage starts at an interest rate of 4 percent and has a life cap of 6 percent, the highest interest rate that can ever be applied to the loan is 10 percent. Borrowers with adjustable-rate mortgages that have reasonable life caps may ultimately save money in the future because interest rates can never increase over the stipulated life cap, regardless of how high the current fixed rates are. If fixed interest rates were to increase to 25 percent at a future time, the maximum applicable rate would still be 10 percent in the example stated earlier. Life caps are applicable to adjustable-rate mortgages because the rates are subject to changes at certain intervals. Fixed-rate mortgages do not involve life caps because the interest rate does not change.
