Capped rates combine the competitiveness of a variable rate with the peace of mind of a fixed rate. You pay a variable interest rate, perhaps at a discounted rate, but then a cap is set by your lender. If rates rise above this level, you pay the capped rate. For a defined term you are guaranteed not to pay above a determined rate of interest, but will benefit from any fall in interest rates.

These are attractive if you suspect that interest rates may rise in the near future. They can be available for an introductory period, or even for the length of your mortgage term. Capped rates are usually set at a higher interest rate than fixed rates. If interest rates do not fall below the capped rate during the term, then a fixed rate will be more competitive.

Cap and Collar

This is when a mortgage is capped to not go above a particular rate, but also collared to not go below a particular rate. This will be a more attractive deal to lenders as they will benefit if interest rates fall below the collared level.

As with a discount deal, your rate will go up and down in line with the lender’s Standard Variable Rate, however it will be ‘capped’ at a particular rate, so that the rate can not rise beyond this point. It will also be ‘collared’ so that if the rate should fall below this level, you will pay at the ‘collared’ level.

Advantages

Capped rates are a popular deal when it looks as though interest rates will rise. They make it easier to budget as you know that your payments will not rise beyond a certain level, but you will also benefit if the interest rate were to fall.

Some deals include a discount to the Standard Variable Rate.

Disadvantages

Although competitive, the interest rate can be higher than for a comparable fixed or discounted deal. The cap will usually be set higher than a standard fixed rate, making it a more expensive deal. Equally, the discount may be smaller than with a standard discounted rate.

Penalties may tie you into the mortgage beyond the capped period.