In deciding whether to purchase a new car and give your old car to your younger brother, the original cost of your old car is a(n) ______ cost.

In deciding whether to purchase a new car and give your old car to your younger brother, the original cost of your old car is a(n) ______ cost.

• A. opportunity
• B. fixed
• C. incremental
• D. sunk

Answer: (D)

The main idea here is sunk cost. The original amount you paid for the old car is money already spent, and it cannot be recovered by the choice you make now (whether you buy a new car or give the old one away). When deciding, you should ignore sunk costs and focus on future cash flows and benefits, such as the cost of the new car, potential maintenance savings, insurance, and any resale value you might get from the old car. It isn’t a fixed cost (which would be a cost that stays the same regardless of activity), nor an incremental cost (the extra cost of choosing one option over another), nor the opportunity cost (the foregone benefit of the best alternative today). So the original purchase price is a sunk cost.

The main idea here is sunk cost. The original amount you paid for the old car is money already spent, and it cannot be recovered by the choice you make now (whether you buy a new car or give the old one away). When deciding, you should ignore sunk costs and focus on future cash flows and benefits, such as the cost of the new car, potential maintenance savings, insurance, and any resale value you might get from the old car. It isn’t a fixed cost (which would be a cost that stays the same regardless of activity), nor an incremental cost (the extra cost of choosing one option over another), nor the opportunity cost (the foregone benefit of the best alternative today). So the original purchase price is a sunk cost.