Opportunity Cost Definition

The opportunity cost of a good or activity is the value of the next best alternative use of resources. For example, if someone uses their time to go to school, they forgo the opportunity to work and earn an income. The opportunity cost of going to school is the tuition paid plus the earnings that could have been made if they were working instead.

In personal finance, opportunity cost is often thought of as the ‘cost’ of money. For example, if someone has $10,000 in savings and spends $5,000 on a new car, their opportunity cost is $5,000. They could have invested that money and earned interest on it. The opportunity cost of buying the car is the interest that could have been earned by investing the money.

In economic decision-making, Opportunity Cost refers to trade-offs between two choices. When making a decision, you are always giving up something in order to get something else. The second best option available to you is your opportunity cost. In other words: what did you give up when you made your choice?