My wife and I are having a disagreement as to what it means. She says that it means the cost of something you purchased some time ago, and had you not purchased it the money would be gone anyway.
Basically, 3 years ago we decided to purchase something to hold onto and sell later on when the value goes up. She says that the purchase price can be considered as profit since it was so long ago. I disagreed. Anyway, she calls it “sunk cost”.
In: 59
If you spend money on something and that money is not recoverable, that money is called “sunk cost” and should not be factored into future decisions.
For example, you buy a shirt that is not returnable and doesn’t fit so you can’t wear it. You’re considering buying a new shirt… the money you spent on the first one should not influence that decision, the only factors influencing the decision should be based on whether or not you need/want a shirt since what you paid for the first shirt is now sunk.
In your scenario with your wife, the phenomenon you are discussing is closer to “buyer’s remorse”
She’s wrong.
Those big outlet malls run on sunk cost. After seeing the advertisements about good deals, you decide to take that hour trip to the outlet mall. So you pack up the family and drive. You get there and you see that there’s not really anything there you want. But you already made the hour trip (plus hour back), so you buy something anyway.
Your wasted trip, the time, gas, and trouble, is the sunk cost. It’s time and money you spent on purchases at the outlet mall that you’re not getting back. You consider that you’re losing money if you don’t buy anything, which encourages you to needlessly buy things to (in your mind) recover some of the sunk cost. Or you may buy more than you intended to in order to spread the sunk cost across more items.
But if you realize what sunk cost is, you just return home without buying anything, admitting you wasted that money without wasting any more to “make up for it.”
I think you need to make a distinction between *decision making* and *accounting*. The term “sunk cost” is really only applicable in decision making.
In your situation, the money you spent on object X *in the past*is a sunk cost insofar as it informs what you choose to do with it X *in the future*. What that means is that you shouldn’t take the money you’ve already spent into account when you are deciding whether or not to keep or sell X, because that money isn’t recoverable. The only relevant factors are how much you can sell X for today, and how much upkeep cost and/or benefit you get from holding on to X (the economic “utility”).
Having said that, when calculating your profit, you absolutely need to factor in the amount you spent on X. You can’t just say “well it was long enough ago that we can consider it free”, because that’s just not true.
A concrete example: let’s say you bought a DVD rental store in 2005 for $1000. That $1000 is a sunk cost as far as your future decisions are concerned, because you can never go back to 2005 and undo that purchase. All you can do is decide to sell or keep the store today. You have an offer for $500 for the store. The sunk cost principle tells us you *should not* use the $1000 you paid initially as part of your decision, otherwise you will possibly end up losing more money. Let’s say, since it’s 2022 and no one rents DVDs, you lose $10/month on the store. You should just sell the store for $500, because the only alternative is to keep losing $10/month. It doesn’t matter that you paid $1000 for it initially, because if you insist on waiting until you can “make that $1000 back”, you’ll end up losing $10/month for eternity. The $1000 is the sunk cost. However, in calculating your profit, you don’t get to just say “Well I made $500 profit!”, because you didn’t, you paid $1000 + all the years of upkeep. So your profit is still negative (-$500 and all the months of running it), but it would have been even *more* negative if you had fallen victim to the sunk cost fallacy and not sold.
Forgetting that you put 100 bucks in your pocket and finding it 3 years later doesn’t make it profit. You two invested in something, and whether you make more money than you invested, the only profit is what is above the purchase price (minus tax and inflation and other costs like storage). It might be a pleasant surprise during your household budgeting to remember that you can get your investment back, but that’s not a sunk cost.
Sunk cost pertains to the risk and future expense into a potentially losing venture. It also usually relates to black or white, all or nothing scenarios, like the movie scenario from other posters. It can also apply to campaign donations…you may have given a candidate 1,000, but you have to decide whether to donate in the future. Do you continue to back that candidate because you already spent 1000? Or do you cut your losses/back another candidate? I put a $2500 down payment on a contractor to do my basement, but question the quality of their work ethic and business…do I continue to work with that contractor and pay them the rest of the money, or walk away? That down payment is a sunk cost that I’m not getting back.
TLDR, the purchase price is not sunk cost. It’s an investment that you forgot about/budgeted out of your finances. If you paid rent for storage and are deciding if you should keep your investment or sell it, the rent could be a sunk cost in relation to your investment.
Your wife is right (or at least not entirely wrong). She’s just using a bit of a weird way to put it. And if I’m understanding her correctly, she’s being smarter about money, as well.
You bought a “thing.” We don’t know what this thing is. You bought it to sell “when the value goes up.”
In other words, you gambled.
When you’re gambling healthy, you have a stack of money. It’s throwaway money. No matter what, that’s what you’re allowed to gamble with. That money is already gone, because you’re spending it on the act of gambling.
Now, say you win $1. You didn’t lose all but $1, you spent the money you intended to spend and won $1.
You intended to gamble on this thing. If you win anything from selling it, you’ve won whatever you get. Whatever you get is your profit.
The amount you spent is the sunk cost. That’s your gamble. Your wife is right because whatever you get from the gamble is your winnings. The only time you get “losses” in gambling is when you spend money you shouldn’t be spending.
Now for the real sunk cost fallacy.
You’re sinking your emotional bandwidth into this silly argument. You’re taking your gambling too seriously. For you, this is about profit and original cost and where the money came from and what you could’ve done with it. You’re not getting any winnings.
Your wife, on the other hand, is getting her winnings and her happiness and she doesn’t need to care about all that.
I’ll give an analogy with video games.
You’re playing World Of Warcraft and you really want to get a turtle mount, but it has a .01% drop rate from the boss. You spend hours grinding the boss, getting angrier every time the mount doesn’t drop.
The time you’ve spent grinding the boss is sunk cost because you can not get it back.
I need to forward this to my management team. They constantly rationalize spending more money on failing projects, programs, technology because “we’ve already spent X million dollars! “
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