The value of the next best alternative foregone when making a financial decision.
Opportunity cost is the benefit you forgo by choosing one option over another. Every financial decision has an opportunity cost—the next best thing you could have done with that money or time. For example, if you pay cash for a $10,000 car instead of investing that money at 7% annually, your opportunity cost is $700 in first-year investment returns you gave up. Understanding opportunity costs helps you make better financial decisions by considering what you're giving up, not just what you're buying. Should you take a job with lower pay but better benefits? Calculate the opportunity cost of lower wages. Should you buy a home or rent? Consider the opportunity cost of down payment capital tied up in real estate versus alternatives.