Your rehearsal dinner is the precursor to your wedding so you want it to set the tone for the wedding weekend! Normally a smaller affair for the bridal party and immediate families of the bride and groom, this event is traditionally paid for by the groom's parents. You can do a backyard barbecue or a formal affair, just make sure to communicate to your guests what the level of dress is.
If you want to invite out of town guests, it's always a nice gesture but not a mandatory one. One you set a budget for your rehearsal dinner, you can figure out how many additional people you can invite should you choose to. It can be as fancy as the wedding itself or it can be a laidback evening to spend with your loved ones to thank them for all of their help with the wedding and their support. Because who doesn't love being paid in food?