Each day, we make choices of all sorts. What to wear. What to have to eat. What we spend our money on. And so on.
When it comes to buying things, everyone loves a deal. Think of the sales held by any retailer. Buy one get one free. Our biggest sale ever!
Consider the following:
An item costs $100. Buy it in MA and you pay $6.25 in sales tax (after 8/1). Buy that same item in NH and you pay nothing in sales tax.
Now, assuming time and transportation costs are not a factor, how many of you would take that deal? Raise your hand if you would. I bet most would.
How many of you would then take that $6.25 in tax not spent and consciously save it? I can add that $6.25 to my retirement savings. My guess is that not many hands are still up now. Maybe you used that extra money to get a little something extra or stopped for that extra cup of coffee at Starbucks. Seems reasonable right?
What if we actually did put that $6.25 in an account? Hopefully it would earn some interest. Over time, those savings – plus the interest - could really add up.
So if we spent that $100 in MA and paid the tax, not only did we spend more but we also cost ourselves the opportunity to earn more on that money.
That’s called opportunity costs. Merriam-Webster defines opportunity costs as:
the added cost of using resources (as for production or speculative investment) that is the difference between the actual value resulting from such use and that of an alternative (as another use of the same resources or an investment of equal risk but greater return
No, I am not telling you to only buy stuff in NH. This was just an example.
How does this relate to personal finances? We make all sorts of choices – how to and how much to save. How to finance that next big purchase. Each of these financial decisions may generate opportunity costs in addition to the actual ‘cost’ – often unknowingly.
Recognizing that this can significantly impact your finances is the first step.
What have your financial decisions really cost? What if you were able to recapture the opportunity costs and then have those funds work for you?
Trivia question – According to the Fed’s 2007 Survey of Consumer Finance, the net worth of the average American household headed by an employee (non-business owner) was $352,000 including real estate. What is the average net worth for a family headed by a business owner?
Answer to last week’s trivia question – the current system of taxation, where the US government taxes income came into effect in 1913 with the ratification of the 16th Constitutional Amendment. At that time, the tax was meant to be “small and non-intrusive”. Yeah right…
