Part 2 of 3: SBA’s New $3 Million Quality of Earnings Requirement - What Business Sellers Need to Know
Updated: Sep 28
If an SBA-financed Initial Acquisition or Business Expansion has an SBA-defined Business Purchase Price of $3 million or more, a lender-obtained QoE may determine how much debt the transaction can support.
Some owners have been through a buyer’s quality of earnings (QoE) review. Far fewer owners have been through the new lender-benefit process required by SOP 50 10 8.1.
Starting October 1, on SBA 7(a) initial acquisitions and business expansions where the Business Purchase Price reaches $3 million, that report is not optional. Owner buyouts and ESOP or Cooperative transactions are outside the mandate, though a lender can order one on any deal. Part 1 of this series covered the new rules broadly. This one is about the report itself:
who orders it
what it tests
what happens to your deal when the number it produces is lower than the number you’ve been marketing.
A Valuation Asks What the Business Is Worth. A QoE Asks Whether the Earnings Are Real.
Covered transactions need both, and sellers conflate them constantly.
A business valuation concludes value. It must be performed by a qualified source, requested by and prepared for the lender, and must support the purchase price. If the price exceeds the valuation, the difference must be made up with equity.
A QoE analysis doesn't conclude value. It examines the reliability, sustainability, and accuracy of the earnings themselves. The SOP’s own language is that the report must reconcile the business’s financial records to produce a normalized, adjusted earnings figure that reflects recurring, arm’s-length operations.
Two words in that phrase are worth sitting with.
Recurring.
Arm’s-length.
That's where most of the argument happens.
Nobody on Your Side of the Table Gets to Order This Report
The SOP is unusually direct about this. The QoE must be performed by an independent, experienced financial professional, conducted for the benefit of the lender, and it may not be prepared by or for the borrower or the seller.
Three things follow from that.
You cannot commission the required report.
Neither can the buyer.
You cannot assume control over the firm, the scope, or the timeline. The lender controls the engagement, although the transaction parties may coordinate timing, document flow, and questions.
That is a different posture than sellers are used to. In ordinary diligence, the buyer’s team asks, and you respond, and there is a negotiation. Here, the lender obtains an independent report for its own benefit. The borrower and seller cannot prepare or commission the report that satisfies the mandate, and the lender controls the engagement subject to SBA requirements and its own credit policies.
It’s worth knowing what the published SOP does not say. It does not require a CPA license, a specific QoE credential, a stated minimum number of years, or selection from an SBA-approved provider list. Lenders must meet the SBA requirements and may impose stricter qualification standards under their own credit policies.
A practical note on cost: the out-of-pocket cost may be passed to the borrower, and applicant funds spent on the report may count toward the required equity injection, subject to the lender’s documentation and underwriting.
The Report Starts by Making Four Sets of Records Agree
Before anyone gets to earnings, the analysis has to reconcile four things:
your accountant-prepared financial statements
your tax returns
your internal financial statements
your IRS transcript data.
Most closely held businesses have at least one of those telling a different story. The internal P&L is built to run the company. The tax return is designed to produce the lowest legal amount. The reconciliation between them usually lives in your controller’s head or in your CPA’s working papers, and it has never had to be written down for a stranger.
Now it does. A difference among those records isn’t fatal. An unexplained difference is a finding.
Cash Proof Is the Part Most Sellers Have Never Heard Of
This is the newest requirement and the one most likely to catch an owner off guard.
A Cash Proof reconstructs cash receipts and disbursements by reconciling bank statement data to the income statement and the tax return for every period under review. The periods are the trailing twelve months plus each of the last two fiscal years. That is roughly three years of bank activity, tied out against what you reported.
The SOP states the purpose plainly: to identify discrepancies in income and undisclosed expenses.
Worth reading twice. The exercise is designed to find money that came in but wasn't recorded, and money that went out that nobody mentioned.
For a business with clean records, a Cash Proof is a documentation exercise and not much more. For a business where the owner has moved money in ways that made sense at the time, it’s something else. The deposit from the equipment you sold. The loan from a family member. The distribution that got coded as an expense. None of that has to be improper to become a deal issue. It only has to be unexplained.
What to do now: Pull three years of bank statements and walk them against your P&L and your tax returns. Any deposit or disbursement you can't explain in one sentence with a supporting document is going to come up. |
Every Adjustment Gets Named, and Then It Gets Tested
The report has to identify and document all add-backs and adjustments to your reported earnings. The SOP names the categories:
non-recurring revenue or expenses
above- or below-market owner compensation
related-party transactions
deferred maintenance
differences between cash-basis and accrual-basis reporting.
Two of those deserve attention, because sellers rarely see them coming.
Related-party transactions. Rent paid to a building you own. A service contract with a company your family holds. A vehicle leased through another entity. None of that is disqualifying. All of it has to be priced at arm’s length, and you are the one who has to show the comparison.
Deferred maintenance. The equipment you didn’t replace. The roof you put off. That isn’t an adjustment in your favor. It’s a cost the buyer inherits, and it can move the earnings figure in the wrong direction.
On add-backs in general, I have written at length about the ones buyers reject and what clean financials truly mean in a transaction. The principle doesn’t change under the new rule. An add-back is worth exactly what the documentation behind it is worth. What changes is who is checking, and what happens when they disagree.
They Test Your Revenue Too, Not Just Your Expenses
Most sellers brace for the expense side and forget the other half. The report also has to assess the quality and sustainability of your revenue base: customer concentration risk, contract continuity, and the likelihood that existing revenue and margins will be maintained after the sale.
That last clause is the one to notice. The question isn’t whether you earned the revenue. It’s whether the revenue continues once you are gone.
A contract that has renewed nine years running reads differently than one with a change-of-control provision and a customer who has never met the buyer. Forty percent of revenue from a single account reads differently than forty percent spread across six. You already know which of yours is which. The report will say it out loud, in writing, to your buyer’s lender.
A Lower Number Doesn't Just Lower the Number
How Your Records Become Your Loan Amount
Step | What happens |
Bank statements | Three years of deposits and disbursements, pulled as source data |
Tax returns | What you reported to the IRS, for the same periods |
Financial statements | Accountant-prepared and internal, reconciled against the above |
Normalized earnings | One adjusted figure the analyst concludes is recurring and arm's-length |
Debt service coverage ratio (DSC) | That figure tested against the proposed loan payments |
Loan amount | What the bank will actually lend |
The first three are records you already have. The last three are conclusions someone else draws from them.
Here is the mechanism that turns a report about your books into a change in your deal.
The lender must use the earnings from the QoE in the debt service coverage determination and keep the report in the credit file. If that coverage doesn’t support the valuation and the proposed debt structure, the loan amount has to be reduced.
Then it cascades. A smaller loan leaves a gap, and the gap gets filled by something: more buyer equity, a larger seller note, a different structure, or a lower price. There’s also a constraint on how it gets filled. If the price exceeds what the valuation, QoE, and proposed debt structure support, the gap may require additional buyer equity, a lower price, or another permitted structure. Debt used as an eligible equity source may have to remain on full standby—no principal or interest payments during the SBA loan term.
If you were counting on a seller note that pays you something along the way, that’s the sentence to read twice.
This is the same pattern behind why deals retrade in diligence, with one difference. A retrade is a negotiation. This is arithmetic the lender is required to perform.
What to do now: Before you set an asking price, find out what your earnings look like when reconciled to your bank statements. If there is a gap between the EBITDA in your marketing materials and what the records support, you want to find it while you still have time and options. |
Clean Books Make the Process Easier, Not Automatic
None of this is a reason to treat a QoE as something to fear. Clean, reconciled records make the process faster and more credible, but they don’t guarantee that every adjustment or the marketed earnings figure will be accepted. The report also tests sustainability and arm’s-length economics.
The sellers who struggle are the ones who’ve never had their numbers examined by someone with no reason to be generous. In Sweat Equity Payday, I make the point that value in a buyer’s eyes is built on facts, and that you have to do more than hope your business is worth what you think it is. You have to prove it. The new rule adds one more party to the room whose job is checking the proof.
Part 3 covers what to do about all of this before an LOI, while you still have room to fix what the report would otherwise find.
At HartmannRhodes, I work with owners of lower-middle-market companies across the country to get the financial records ready before someone else tests them, and to run a process where the number you market is the number that survives.
You have spent decades building this business. The earnings you present should be the earnings that hold.
You only sell your business once. Make it count.
If you are preparing to sell and want to know how your numbers would hold up under this kind of review, schedule a confidential discovery conversation at HartmannRhodes.com/discovery.
If you're preparing to sell your business and want to understand how your numbers might hold up under this kind of review, schedule a confidential discovery conversation.
Common Questions About the SBA Quality of Earnings Requirement:1) What is a quality of earnings (QoE) report? It is a financial due diligence analysis that examines whether a business’s reported earnings are reliable, sustainable, and accurate. It reconciles the company’s financial records and produces a normalized earnings figure intended to reflect recurring, arm’s-length operations. It is not an audit, and it is not a valuation. 2) When is a QoE required on an SBA acquisition? On SBA 7(a) initial acquisition and business expansion transactions where the SBA-defined Business Purchase Price is $3 million or more, for applications receiving an SBA loan number on or after October 1, 2026. Owner buyouts and ESOP or Cooperative transactions are exempt from the mandate. A lender can still order one on any deal under its own credit policy. 3) Who orders the report, and who pays for it? The lender obtains it, and it must be prepared for the lender’s benefit by an independent financial professional. It cannot be prepared by or for the buyer or the seller. The out-of-pocket cost may be passed to the borrower, and applicant funds spent on the report may count toward the required equity injection, subject to the lender’s documentation and underwriting. 4) What is a Cash Proof? It is a reconciliation of bank statement activity to the income statement and the tax return, covering the trailing twelve months and each of the last two fiscal years. Its stated purpose is to identify discrepancies in reported income and undisclosed expenses. It is a required component of the QoE. 5) How is a QoE different from a business valuation? A valuation determines what the business is worth and must support the purchase price. A QoE tests whether the earnings used in underwriting are real and repeatable. A covered transaction requires both; neither substitutes for the other. 6) What happens if the QoE earnings come in lower than the earnings in my marketing materials? The lender has to use the QoE figure in its DSC calculation. If coverage no longer supports the proposed debt, the loan amount is reduced, and the shortfall has to be covered by additional equity, a change in structure, or a change in price. If the price exceeds what the valuation, QoE, and proposed debt structure support, the gap may require additional buyer equity, a lower price, or another permitted structure. Debt used as an eligible equity source may have to remain on full standby—no principal or interest payments during the SBA loan term. 7) Can I commission my own quality of earnings review before going to market? Yes, and for larger transactions, it is worth considering because it surfaces problems on your timeline rather than during the buyer’s exclusivity period. Understand what it does and does not do. A seller-commissioned review does not satisfy the SBA requirement, and the lender will still obtain its own report. |
The SBA can issue additional guidance, and individual lenders may apply their own underwriting overlays in addition to SBA minimum requirements. Confirm transaction-specific requirements with the lender and with your accounting, legal, and transaction advisors.
Primary source: [SOP 50 10 8.1]
Mark Hartmann is a former business owner turned M&A advisor—and the author of Sweat Equity Payday—who knows firsthand what it takes to build, grow, and sell a successful company. A three-time Inc. 5000 CEO honoree, he led his own eight-figure sale and now helps business owners sell companies worth $1M to $25M. Mark understands that selling a business is personal, not just financial. That’s why he works closely with owners to maximize value, protect their legacy, and transition on their terms.
He holds an MBA from Eastern University and a master's degree in organizational change management from St. Elizabeth University, as well as Certified M&A Professional (CM&AP), Certified Business Intermediary (CBI), Certified Exit Planning Advisor (CEPA), and Certified Value Builder (CVB) credentials.
44 Washington Street, Unit #1080
Morristown, NJ 07960
(855) 652-7577
HartmannRhodes advises owners of companies typically valued between $1–$25 million. If you’d like a structured pre-sale valuation review and a readiness roadmap, we can walk you through the process and tailor it to your timeline and goals. Contact us today!
Blog: Part 2 of 3: SBA’s New $3 Million Quality of Earnings Requirement - What Business Sellers Need to Know