In decision-making—whether personal or business-related—past investments often influence future choices. However, not all past costs should impact current decisions. This is where the concept of sunk cost becomes important. Understanding sunk costs helps individuals and businesses avoid poor decisions driven by past expenses and instead focus on future value and outcomes. Check your business loan eligibility to ensure future financial decisions are aligned with realistic outcomes.
What is a sunk cost?
A sunk cost is an expense that has already been incurred and cannot be recovered, regardless of future actions. Once spent, these costs are irreversible and should not influence current or future decision-making. In economics and finance, sunk costs are considered irrelevant when evaluating the viability or profitability of future options.
Types of sunk costs
Sunk costs can arise in various forms across personal finance and business operations.
Common types include:
- Research and development expenses already incurred
- Marketing or advertising costs already paid
- Money spent on equipment or assets with no resale value
- Training costs for employees who have left
- Non-refundable deposits or fees
Examples of sunk costs
Real-world examples help clarify the concept of sunk costs.
Examples include:
- Money spent on software that is no longer useful
- Cost of a movie ticket even if you leave halfway
- Funds invested in a project that has been discontinued
- Advertising expenses for a campaign that failed
- Tuition fees paid for a course that is no longer pursued
How sunk costs work
Sunk costs influence behaviour mainly through psychological attachment rather than financial logic.
How they function in decision-making:
- They are incurred in the past and cannot be changed
- They do not affect future costs or benefits
- Rational decisions should ignore sunk costs
- Focus should be on marginal costs and future returns
- Considering sunk costs often leads to inefficiency
What is sunk cost fallacy?
The sunk cost fallacy is a cognitive bias where individuals or businesses continue investing in a decision solely because they have already spent time, money, or effort on it. Instead of evaluating future benefits, decisions are influenced by past, unrecoverable costs, often leading to further losses.
Examples of the sunk cost fallacy
The sunk cost fallacy is common in everyday and business decisions.
Examples include:
- Continuing a failing business project because of money already invested
- Holding on to a losing stock to “recover” past losses
- Persisting with outdated technology due to prior investment
- Attending an event despite no interest because the ticket was paid for
- Continuing a course or subscription that no longer adds value
How to avoid sunk cost fallacy?
Avoiding the sunk cost fallacy leads to better financial and strategic decisions.
Ways to avoid it include:
- Focus only on future costs and benefits
- Separate emotions from financial decisions
- Accept losses as part of learning and growth
- Reassess decisions using objective data
- Set clear exit criteria before investing
Factors that lead to the sunk cost fallacy
Several psychological and organisational factors contribute to this bias.
Key factors include:
- Emotional attachment to past investments
- Fear of admitting mistakes
- Desire to justify previous decisions
- Loss aversion and regret avoidance
- Social or professional pressure
Conclusion
Sunk costs are unavoidable, but letting them dictate future decisions can be costly. By recognising sunk costs and avoiding the sunk cost fallacy, businesses can make rational, forward-looking choices that maximise value. When planning future investments or restructuring finances, options like a business loan should be evaluated based on future returns rather than past expenses. Carefully comparing the business loan interest rate helps ensure smarter financial decisions that support sustainable growth. Check your pre-approved business loan offer before committing to long-term financial strategies.
