How to Calculate Relevant Cost

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Relevant costs change as a result of a decision. Not all future costs are relevant. If a cost is going to occur regardless of the decision being examined, it is not a relevant cost. Decisions always involve at least two alternatives, and examining relevant costs is a tool that aids in this process. Sunk costs have already occurred and are not accounted for in relevant costs.

Make a list of the all the costs related to a future decision. If you're deciding between using a train or a car for a long-distance trip, a list would include the cost of gasoline, auto insurance, parking expenses, reduction in the resale value due to wear and tear, and the cost of a train ticket.

Cross off items that are not affected by the trip. In the above example, reduction in the resale value due to wear and tear will occur independently of the trip, so that is not a relevant cost. The yearly cost of auto insurance is also something that must be paid regardless of what occurs on the trip. However, if an accident occurs on the trip, this may result in an increase in the future cost of the auto insurance, and therefore the extra money above what is normally paid is a relevant cost. All the other costs are relevant.

Calculate the expenses associated with each relevant cost. While past costs are not relevant, they can be used to estimate a future cost that is relevant. For example, you may know from past trips the cost of food from service stations off the highways and on trains. Food is a cost that will be incurred regardless of whether you take the train or drive, so the relevant cost would be the difference between eating at the two different places.

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