What Is a Family Income Policy and How Does It Work?

A family income policy serves as a type of life insurance designed to provide consistent financial support to beneficiaries following the policyholder’s death. This insurance product focuses on maintaining a family’s financial stability by delivering regular income, rather than a single large payment. It aims to replace the income that the deceased policyholder would have contributed, helping dependents manage ongoing expenses.

Defining Family Income Policies

A family income policy is fundamentally a decreasing term life insurance product. It replaces lost income for a specified duration, ensuring a steady financial stream for beneficiaries through periodic payments. The total potential payout from the policy decreases over time as it approaches its maturity date.

The policy includes an “income period,” which is the predetermined length of time beneficiaries will receive payments. This period often aligns with significant financial obligations, such as supporting dependent children until they become self-sufficient or ensuring a mortgage is paid off.

Many family income policies are offered as a rider, known as a family income benefit (FIB) rider, which is added to a standard term life insurance policy. This rider supplements the main policy’s death benefit, providing a regular income.

The Payout Structure

Upon the policyholder’s death, beneficiaries begin to receive a predetermined, regular income, often on a monthly or quarterly basis. This income stream continues for the remainder of the policy’s original term, not for a fixed period after the death. The “decreasing term” aspect of the policy means that the total amount of income received by beneficiaries depends directly on when the policyholder passes away.

If the policyholder dies early in the policy’s term, beneficiaries receive payments for a longer duration, resulting in a larger total payout. Conversely, if death occurs later, the income stream will be shorter, leading to a smaller aggregate benefit. For example, if a 20-year policy is purchased and the policyholder dies five years in, payments continue for the remaining 15 years.

Death benefits from a life insurance policy, including a family income policy, are generally not considered taxable income for beneficiaries under federal tax law. However, any interest earned on the proceeds while held by the insurance company may be subject to income tax.

Tailoring a Policy to Needs

Configuring a family income policy involves considering specific financial needs and future projections. One primary factor is determining the appropriate monthly or annual income amount. This calculation should account for essential living expenses, ongoing debt payments such as a mortgage or car loans, and other regular financial obligations the family would face without the policyholder’s income. Many income protection policies aim to cover a significant portion of pre-tax income, often up to 75%.

The choice of the income period, or policy term, is another important decision. This duration aligns with specific life stages when financial dependency is highest, such as until children are grown or significant debts like a home mortgage are fully paid. Some policyholders may choose a term extending until their planned retirement age.

While the monthly income is usually fixed, its purchasing power can be affected by inflation. Some insurers offer a cost-of-living adjustment (COLA) rider to help keep pace with inflation, though this typically increases premiums. The overall cost is influenced by factors such as the policyholder’s age, health, desired income, and chosen policy length.