What aspect differentiates relevant costs from irrelevant costs?

Relevant costs are those that directly affect decision-making and are future costs that can be avoided or changed based on specific choices. The defining feature of relevant costs is that they include only those cash flows that will occur as a result of the decision at hand. This means that they are directly associated with the decision-making process, providing a clear link between the choices made and their financial implications.

For example, if a company is considering whether to accept a new project, only the costs that will change as a result of that decision—such as new material costs, labor costs, and any additional overheads incurred specifically for the project—are considered relevant. These costs are future-oriented and can be influenced by the decision to undertake the project.

In contrast, options that include all costs or existing expenses, like the sum of all current expenses or projected future earnings, do not align with the nature of relevant costs. These may include sunk costs or unrelated historical costs that cannot be altered and thus do not contribute to the decision-making process. By focusing only on the cash flows that are directly impacted by the decision, relevant costs provide the necessary information for making informed business choices.