New SBA Quality of Earnings Requirements for $3M+ Business Acquisitions

The U.S. Small Business Administration (SBA) has issued an important update that could significantly affect larger business acquisition transactions financed through the SBA 7(a) program.

Beginning October 1, 2026, certain change-of-ownership transactions with a business purchase price of $3 million or more will require a Quality of Earnings (QoE) report in addition to the required business valuation.

The change is part of SBA Standard Operating Procedure 50 10 8.1, which becomes effective October 1, 2026, and applies to applications that receive an SBA loan number on or after that date. For buyers, sellers, lenders, brokers, CPAs and other professionals involved in acquisitions, the new requirement places greater emphasis on validating the earnings supporting a transaction.

What Is Changing?

Under the updated SBA guidance, a QoE report will be required for Initial Acquisition and Business Expansion transactions when the applicable business purchase price is $3 million or more.

Importantly, the $3 million threshold is determined before considering buyer equity, seller debt or other financing sources. In other words, structuring a transaction with a larger equity contribution or seller note does not reduce the purchase price used to determine whether the QoE requirement applies.

The updated guidance also provides exceptions. Owner Buyout and ESOP and Cooperative transactions are not subject to this specific QoE requirement under the new procedure.

Another important distinction is how the SBA defines the business purchase price for these financial due diligence requirements. When owner-occupied commercial real estate is included in an acquisition, the appraised value of that real estate is removed from the price established in the purchase and sale agreement when determining the applicable business purchase price.

What Will the Quality of Earnings Report Cover?

A Quality of Earnings report goes beyond simply reviewing whether a company generated a certain amount of profit. It is designed to evaluate the reliability, sustainability and accuracy of a company's historical and projected earnings.

Under the new SBA requirements, the QoE must be performed by an independent, experienced financial professional for the benefit of the lender. It cannot be prepared by or for the borrower or seller.

The analysis will reconcile financial information including accountant-prepared financial statements, tax returns, internal financial statements and IRS transcript data to develop a normalized view of the company's earnings.

The report must also include a cash proof covering the trailing 12 months and the previous two fiscal years. This process reconciles bank activity with the company's income statement and tax returns to help identify discrepancies between reported results and actual cash activity.

Addbacks and adjustments will also receive greater scrutiny. Items such as non-recurring expenses, owner compensation, related-party transactions, deferred maintenance and differences between cash-basis and accrual-basis accounting may need to be identified and supported.

The analysis must also evaluate the sustainability of the business's revenue, including factors such as customer concentration, contract continuity and whether historical revenue and margins are reasonably likely to continue following the sale.

Why Does This Matter for Buyers and Sellers?

One of the most significant aspects of the new requirement is that lenders must use the earnings determined through the QoE when calculating debt service coverage.

That means a transaction may be valued or marketed based on one earnings figure, but the lender's underwriting could ultimately rely on a different normalized earnings figure identified during the QoE process. If the resulting debt service coverage does not support the proposed valuation and debt structure, the financing may need to be adjusted.

For buyers, this makes financial due diligence even more important before getting too far into a transaction. Understanding the quality of a company's earnings, the support behind proposed add-backs and the concentration or sustainability risks within revenue can help identify potential issues earlier.

For sellers, preparation becomes equally important. Clean financial records, well-supported adjustments and clear documentation can make it easier for lenders and other transaction professionals to understand the business's true financial performance.

Preparing for the New SBA Requirements:

The October 1 effective date gives buyers, sellers, lenders and advisors an opportunity to prepare for the additional diligence that may be required on qualifying transactions.

Even when a transaction does not fall under the new SBA QoE requirement, a Quality of Earnings analysis can be a valuable part of the M&A process. A well-prepared QoE can help stakeholders better understand normalized earnings, evaluate recurring financial performance, identify potential risks and make more informed decisions about valuation and deal structure.

As financial due diligence becomes an increasingly important part of SBA-financed acquisitions, buyers and sellers should understand how their financial information may be evaluated before entering the later stages of a transaction.

Considering buying or selling a business? Cooper CPA Group can help you better understand the financial due diligence, Quality of Earnings, valuation and transaction considerations that may affect your deal.

Contact Cooper CPA Group to learn more about our M&A advisory services.