Rural non-farm employment (RNFE) is thought to ease poverty, economic vulnerability and income inequality. Two key questions arise: (1) Do alternative income sources actually help to raise the welfare of small family farms? (2) How is the rural regional income distribution affected by mixed income structures? Based on empirical farm household data from Croatia, this paper analyses the effect of RNFE on income structure and inter-household income distribution among small family farms in transition. We find that agricultural income seems to function as a switch in terms of rural welfare: the smallest and poorest farms – although heavily dependent on farm income – need RNFE to sustain their lives. The better-off farms are only slightly bigger, but achieve significantly higher farm incomes per hectare. RNFE affects rural livelihoods positively in three ways: it is the most important income source of middleincome farms, it lifts poor households out of poverty, and is found to be an important catalyst that helps smooth income inequality in rural regions.