A cap placed on a loan protects the borrower of a floating rate loan from dramatic, unforeseen fluctuations in interest rates. For example, if the loan is capped at a 10% annual interest rate, even if the real interest rate rises to 15% the borrower will only have to pay 10% at most. The same principle applies to mortgages.

There are different types of caps. An annual cap limits the amount the interest rate can rise by the end of a year, a life of loan cap imposes a limit that extends for the full term of the loan, and a payment cap limits the monthly payment amount on the loan.

• floor
• floating rate
• mortgage interest deduction