Whenever you make a choice, there's a cost.
By choosing to buy one item, you pass on the opportunity to purchase other items. By choosing to do one thing, you pass on the opportunity to spend your time on anything else. Opportunity cost is what we give up in order to have the thing we choose.
Let's look at an example.
Imagine you own a delivery company. You have $10,000 to spend on new equipment. You could buy a new truck to add to the fleet, but then you wouldn't be able to replace the ten-year-old computers in the main office. But if you buy new computers, you won't have as many trucks available to make deliveries. No matter which option you choose, something is lost. That's opportunity cost in action.
While this concept is applied constantly in business, it's often overlooked in personal finance.
When you use money for one thing, that money can't be used for anything else. If you purchase a home with a $1500 monthly mortgage payment, for instance, you can't use that money to travel or to fund your retirement.
Opportunity costs are neither good nor bad. They're simply the price you pay to have what you choose. The problem comes when the choices you make aren't intentional — when you make them out of reflex or habit.
Every time you spend money, there's an opportunity cost associated with it. But you’re not just sacrificing other choices in the present; you're also sacrificing your future freedom.