"Reasonable" is a subjective term, particularly when it comes to money. One man might not think twice about dropping $100 on dinner, while another flinches at a $25 tab. The same is true with mortgages. Do you prefer a really awesome home or plenty of discretionary cash in your pocket? A reasonable mortgage can come down to your personal priorities, but that hasn’t stopped a lot of experts from weighing in with their opinions.
TL;DR (Too Long; Didn't Read)
A reasonable mortgage is a mortgage you can afford to pay while still being able to meet all of your other financial obligations.
Gross Income Rule
One rule of thumb says that most homeowners can afford a property that’s between 2 and 2 ½ times their annual gross income. If you earn $80,000, purchasing a home for $160,000 to $200,000 would be considered reasonable.
However, there are a lot of gray areas with this approach. How much of a down payment are you making? This, of course, will affect the size of your mortgage. And this rule is based on gross income, not necessarily what you have available to spend on a mortgage. Your gross income is what you earn before withholding for taxes and other mandatory deductions. You don’t actually have your entire gross income at your disposal to spend.
Some experts take the position that you should spend no more than 28 percent of your gross income on your mortgage payment, including principal, interest, taxes and insurance.
25 Percent Rule
Other experts advise that you should base your mortgage on your take-home pay, which is the income you're actually able to spend. They say that your housing expenses should not exceed 25 percent of your total household budget.
Yes, housing expenses. That includes far more than just your mortgage, although insurance and property taxes are often included in your payment along with principal and interest. Housing expenses include utilities and maintenance too.
Some experts think that spending 25 percent of your take-home pay on just your mortgage is fine. That leaves 75 percent for everything else, like those utilities and the things that are really important to you. If living in a mansion is your top priority, you might feel comfortable moving some of that 75 percent to your mortgage payment. If saving for retirement or even maintaining a killer wardrobe is high on your to-do list, you might want to stick closer to that 25 percent figure.
Lenders will look at your debt-to-income ratio to help determine how much they think it’s reasonable for you to borrow, but keep in mind that the mortgage a bank approves might not be one that you can easily afford. Lenders have been known to err on the generous side.
Your debt-to-income ratio takes all your debt payments into consideration, including the loan on your car and accounts like credit cards. Added all together, the total should be in the neighborhood of 43 percent of your budget. Some experts take the position that it shouldn’t exceed 36 percent of your gross income.
Costs of Home Ownership
You could find yourself strapped for cash even before you take possession of the keys to your new home. You’ll incur closing costs to get that far, many of them based on the amount you’re borrowing. That moving van is going to cost you some cash too. On an ongoing basis, you’ll want to keep a reserve for emergency maintenance. Some repairs can be put off a little while until you can find the money, while others, like replacing that water heater, have to happen immediately.
In the end, "reasonable" is all about how much you earn and what you want – and need – to spend your earnings on. A single homebuyer supporting just himself and his dog has much different financial responsibilities than a couple who is putting their child through college.
Beverly Bird has worked as a paralegal in the areas of personal finance and bankruptcy for over 20 years. She has been writing professionally for over 30 years.