What Is a Quality of Earnings Report? Do You Need One?

A quality of earnings report is an independent accountant's reconstruction of what a business actually earns on a repeatable basis. The accountant ties the seller's P&L to the filed tax returns and to the bank statements, then tests every add-back one at a time. It is a consulting engagement, not an audit, so it carries no opinion and no assurance. Nothing requires you to get one to buy a small business. The right first move at any size is to run the tax-return spread and the proof of cash yourself, then buy a report scoped to the company only if questions remain. From October 1, 2026, though, SBA SOP 50 10 8.1 requires a lender-ordered quality of earnings report on 7(a) Initial Acquisition and Business Expansion loans where the purchase price is $3 million or more, and the lender has to size your loan off that report's earnings number instead of the seller's.

What is a quality of earnings report?

A quality of earnings report is a document produced during diligence that answers one question: how much of this company's reported profit is real, recurring and collected in cash. The accountant starts from the seller's internal financials, reconciles them to the filed returns and to twelve or more months of bank activity, strips out what won't repeat under new ownership, adds back what the current owner runs through the business for their own benefit (each of those adjustments is an add-back), and lands on a normalized earnings figure. That figure is the one you are paying a multiple on.

The report goes to whoever paid for it. It is not an opinion on the seller's financial statements, and nothing in it certifies that the books are correct.

What's actually inside a QoE report?

Five sections of a quality of earnings report do nearly all the work. Two shorthands run through all of them: SDE, meaning seller's discretionary earnings, and EBITDA, meaning earnings before interest, taxes, depreciation and amortization. Both are names for the earnings figure your price is a multiple of.

The bridge is the part most buyers have never seen laid out. A worked SDE recast showing each add-back traced to the return or the bank statement is worth reading before a $20,000 report lands in your inbox.

The add-backs that get over-claimed at this size are rarely exotic. Three of them show up on almost every bridge I read. Rent, when the owner also owns the building and charges the business less than market, so the adjustment should run the other way once you are paying a landlord. Travel and entertainment, which owners like to call entirely personal when most of it has some business basis. And family salaries, the biggest add-back category in the space: the family members are usually doing something, so the salary is rarely a 100% add-back. A good report tests each of those against a document and a market number. A weak one takes the seller's label.

What's the difference between a QoE, an audit, and a CPA who already looked at the books?

An audit and a quality of earnings report answer different questions, and neither one substitutes for the other.

Audited financials from a seller are useful and rare at this deal size, and they still don't tell you what the business earns without the current owner in it. A CPA who "looked at the books" reviewed the books the seller handed over. The reconciliation to the filed returns and the bank statements is the work, and it usually hasn't been done.

So do you actually need one to buy a small business?

No. Nothing requires a buyer to commission a quality of earnings report below the SBA threshold. Whether you should is not a dollar question. A $500,000 purchase is as important to one buyer with their life savings on the line as a $50 million purchase is to a fund, and the report should be scoped and priced to the size of the company, not to a floor. What matters is the order of operations: run the proof of cash and the tax-return spread yourself first, and get as far as you can on your own. If questions about the business itself survive that pass, a quality of earnings report is what you are buying: a second opinion, scoped to the company.

Fee bands track the size and condition of the business rather than the sticker price, so read the share column as the shape of the argument, not a quote. The threshold in the bottom row is measured on the purchase price before your equity, seller financing or any other source, and it excludes owner-occupied commercial real estate.

Mess moves the answer up the table. Disorganized records add 20% to 40% to the fee, and they are also the best reason to pay it. Scope moves it too: narrowing the work to save money is defensible when the books are clean and reconciled and no lender is asking, and it is false economy when the add-backs are aggressive, revenue is concentrated, inventory is material, or the operation runs through multiple entities. Those are the conditions under which the cheap version misses the thing you needed to find.

One condition runs the other way. If the business takes a lot of its money in cash, no report at any price can find revenue that was never deposited, which is the limit spelled out further down this page.

Timing is the other half of the decision, and it is where buyers get hurt. A full QoE takes three to four weeks under $1 million of EBITDA and four to six weeks above it, and those weeks have to fit inside the exclusivity period you signed in the LOI. If the engagement letter isn't signed in the first week of diligence, the report lands after your leverage does.

The one case where it isn't your call: SBA deals at $3 million or more

From October 1, 2026, SOP 50 10 8.1 requires an independent quality of earnings report on 7(a) Initial Acquisition and Business Expansion loans where the purchase price is $3 million or more. Owner Buyout, ESOP and cooperative transactions are exempt even above the threshold. The report has to include a Cash Proof reconciling bank statements to the income statements and the tax returns across the trailing twelve months and the last two fiscal years, pulling operating, sweep and merchant accounts along with the general ledger and AR/AP detail.

The SOP 50 10 8.1 guide for buyers walks through which of the four change-of-ownership categories your deal falls into, deal by deal, along with the equity injection and seller-note terms that moved with it.

What matters for your loan is the arithmetic that follows. The lender runs debt service coverage off the earnings the report supports, not off the seller's number: a 1.25 minimum for Initial Acquisition, 1.15 for Business Expansion. Debt service coverage is the earnings divided by the annual loan payments, so a 1.25 minimum means the earnings have to cover the payments one and a quarter times over. Put the seller's SDE into the SBA DSCR calculator, then put in a number 15% lower and look at what happens to the loan amount. That gap is the practical cost of an add-back that doesn't survive. Post-closing projections can't rescue a coverage shortfall either, because the lender sizes on historical, QoE-supported earnings. That's a different job from the forecast the lender still wants to see.

Most 7(a) borrowers never reach the threshold. Through the first nine months of FY2026 there were 40,824 7(a) loans totaling $21.8 billion, and 75.5% of them were $500,000 or less (figures derived from the proprietary Lumos Data Portal, not the public SBA file). The median closed small-business sale price ran around $349,000 at an average 2.65x cash-flow multiple in Q2 2026, per BizBuySell's Q2 2026 Insight Report as summarized by Sundance Financial Group. If your deal looks like the median, this rule is not about you.

I've taken an acquisition loan through full SBA 7(a) underwriting, application to commitment. Underwriting spread the tax returns, worked through the forecast line by line, and asked for interim financials, agings, debt schedules and payment histories. Nobody asked for the seller's bank statements. They came up only after the commitment letter, when the lender sent a field examiner to the seller with a request list that led with monthly bank statements and bank reconciliations. That is the gap the new rule closes above $3 million, and it closes it at the start instead of the end. Below the threshold, the deposit tie-out is still nobody's job but yours.

Your QoE doesn't satisfy the SBA. The lender's does

SOP 50 10 8.1 requires the report be engaged for the lender's benefit, by an independent financial professional, and rules out a report prepared by or for the borrower or the seller. Two consequences, both expensive if you learn them late:

• A buy-side report you commission can inform your price and your walk-away. It will not fill the lender's file.
• A sell-side report the broker hands you doesn't fill the file either. Read it anyway, knowing the seller chose its scope.

Above $3 million, budget for the possibility of two reports, or rely on the lender's and give up control of the scope.

What won't a quality of earnings report do for you?

A quality of earnings report produces neither reasonable nor limited assurance, and never says the statements are right. It isn't a valuation, so it won't tell you what to pay. Its scope is whatever the engagement letter asked for, which is why that letter matters as much as the report.

The hardest limit sits in the proof of cash. It reconciles what was deposited against what was declared, and it cannot surface revenue that was never deposited. A cash-heavy business with unreported income reconciles cleanly, and the seller's claim about what's "off the books" stays what it was before you paid for the report: unverifiable, and not something a lender will lend against.

If you're skipping the full QoE, run these tests instead

Three tests do most of the work of a QoE's cash section, and you can run them yourself.

Ask in that order: the returns set the ceiling, the deposits test the returns, and the add-backs are the argument you'll have afterward. All three are on the free diligence checklist in that sequence.

If your deal sits between trusting the broker's spreadsheet and spending $20,000, a pre-QoE verification runs the tax-return and bank-deposit tests first and tells you whether the full report is worth commissioning at all.

I spent two decades in restructuring, which means I read these reports from the other end: after the deal closed and the earnings didn't show up. The add-backs that cause trouble are almost never exotic. They are ordinary costs someone agreed to call one-time. The ones to watch are what I call recurring non-recurring items. One year it is storm damage at a Gulf Coast plant. The next year it is a supply-chain breakdown. The year after that, something else. Each one is justified in isolation as a one-time add-back, and each one has a story. Viewed in totality, something happens every year, because of the business, the industry or the location, and the total is the cost of doing business there. On the operation I have in mind it ran to about a million dollars a year, and at that scale the company could absorb it. On a main-street deal it is the difference between the earnings you were sold and the earnings you get, and it belongs in the number you pay a multiple on.

Common follow-up questions

What is a proof of cash? It is the section of a QoE that reconciles bank activity to the income statement and the tax returns, month by month across the trailing twelve months and the prior two fiscal years. It pulls operating, sweep and merchant accounts to catch non-revenue deposits, timing gaps and undisclosed accounts. The SBA calls its version a Cash Proof and requires it inside the lender-ordered report.

How much does a quality of earnings report cost? Roughly $10,000 to $25,000 for a business under $1 million of EBITDA and $15,000 to $40,000 from $1 million to $3 million, with buy-side work running 10% to 20% above sell-side and disorganized records adding 20% to 40%. Proposals for comparable work vary two to six times across firms, so get more than one. Big 4 firms bill $500 to $800 an hour while boutiques quote fixed fees.

Can I use the sell-side QoE the broker gave me? Read it, and treat it as the seller's document. It won't satisfy the SBA requirement above $3 million, and its scope was chosen by the party selling the business. Check what it tested and, more importantly, what it didn't.

Does a QoE replace an audit? No, and an audit doesn't replace a QoE. The audit opines on whether the statements are fairly stated. The QoE tells you what the business earns without the current owner in it. At main-street deal sizes you will usually see neither, which is why the deposit tie-out and the tax transcripts carry so much weight.