What is 'Net Amount at Risk'

Net amount at risk is the monetary difference between the death benefit paid by a permanent life insurance policy and the accrued cash value. For example, if a policy's death benefit is $200,000 and its accrued cash value is $75,000, then the amount at risk equals $125,000. The amount at risk determines the cost of protection provided by the policy.

BREAKING DOWN 'Net Amount at Risk'

In general, the cash value in a permanent policy is designed to grow, and this growth reduces the net amount at risk in a policy, which keeps the mortality cost at reasonable levels even though the actual cost per $1,000 of death benefit is growing every year. As an example of this concept in action, consider a whole life insurance policy issued for a face value of $100,000. At the time of issue, the entire $100,000 is at risk, but as cash value accumulates, it functions as a reserve account, which reduces the net amount at risk for the insurance company. Therefore, if the cash value of the insurance policy rises to $60,000 by its 30th year in force, the net amount at risk is then $40,000.

As age of the insured increases, mortality cost per thousand dollars of net amount of risk increases. As long as cash value continues to increase in a whole life policy, and those gains are greater than mortality costs and other expenses, a policy should continue to grow and remain in-force.

Net Amount at Risk vs. Legal Reserve

If a life insurance policyholder dies before age 100, the insurance company loses the net amount at risk for that person's policy. This loss is compensated by the premiums of those who haven't died yet and from income from invested premiums. Since the sum of the net amount at risk and the legal reserve equals the face value of the policy, the net amount at risk and the legal reserve are inversely proportional. As the legal reserve increases, the net amount at risk decreases. The main purpose of the legal reserve is to provide lifetime protection, but because more money is collected in premiums in the early years of a policy than is needed to cover the mortality charge, level-premium policies develop a cash value, which the policyholder can borrow against, or can surrender the policy for its cash value if the policyholder no longer wishes to continue the life insurance policy. However, the cash value is initially less than the legal reserve because of deductions of sales expenses and other acquisition costs.

RELATED TERMS
  1. Add To Cash Value Option

    An add to cash value option is a life insurance policyholder's ...
  2. Yearly Price Of Protection Method

    The yearly price of protection method determines the cost of ...
  3. Term Life Insurance

    Term life insurance is a type of life insurance that guarantees ...
  4. Permanent Life Insurance

    Permanent life insurance refers to plans that do not expire, ...
  5. Policy Loan

    A policy loan is issued by an insurance company that uses the ...
  6. Life Insurance

    Life insurance is a contract in which the insurer guarantees ...
Related Articles
  1. Insurance

    How Cash Value Builds in a Life Insurance Policy

    If you have permanent life insurance, more of your insurance premium goes to cash value in the early years of your policy.
  2. Retirement

    Beware the Sneaky Math of Universal Life Insurance

    Universal life insurance's cash value can be a cash cow – if there's any left. Read on to see if it'll work as an income source after you've retired.
  3. Managing Wealth

    Life Insurance With an Increasing Death Benefit

    Why buy a life insurance policy with an increasing rather than level death benefit
  4. Insurance

    Should You Buy Term or Permanent Life Insurance?

    When choosing between term or permanent life insurance you'll need to consider these factors.
  5. Insurance

    How Good of an Investment Is Life Insurance?

    Compared to other options, does it ever make sense to include cash-value life insurance in your investment portfolio? A look at the pros and cons.
  6. Insurance

    How Life Insurance Can Provide Retirement Income

    Universal life insurance can generate tax-free retirement income. Here's how.
  7. Insurance

    Life Insurance: How To Get the Most Out Of Your Policy

    There are many benefits to owning a life insurance policy - if you get the right one for you.
  8. Financial Advisor

    Life Insurance: Variable Vs. Variable Universal

    Do you know why you might need one policy versus the other? Read on to find out the difference between Variable and Variable Universal life insurance.
  9. Insurance

    How Much Life Insurance Should You Carry?

    Before purchasing life insurance it is important to decide if you really need it, what type of policy is best, and how much coverage you should get.
  10. Financial Advisor

    7 Issues to Consider When Determining Life Insurance Coverage

    Seven issues to consider when buying life insurance to ensure the coverage is tailored to meet your personal financial situation.
Trading Center