The SBA Quality of Earnings requirement applies at a business purchase price of $3 million or more. That sounds like a number you can read off an LOI. In practice, three details decide which side of the line a deal falls on, and all three catch people out.
The threshold is the amount in the purchase and sale agreement, less any owner-occupied real estate carried at appraised value.
Two consequences follow from that wording.
Financing structure does not reduce it. A seller note is part of the purchase price. So is the portion covered by the buyer's equity injection. A $3.2 million deal with $400,000 of seller financing is a $3.2 million deal for this test, not a $2.8 million one. This is the single most common misreading we see.
Appraised real estate comes out. If the transaction includes owner-occupied real property carried at its appraised value, that value is excluded from the threshold test. A deal at $2.6 million for the operating business plus $900,000 of appraised real property is a $3.5 million transaction that sits under the threshold on the business side.
The requirement attaches to initial business acquisitions and business expansions.
Partner and owner buyouts are exempt, as are ESOP and cooperative conversions. The reasoning is sensible: in those structures the people taking over already know how the business runs and what is in the books, so the information gap the report exists to close is not there.
If your structure is anything other than a straightforward third-party acquisition, confirm the loan type with your lender before assuming you are outside the rule. The exemptions are narrower than people hope.
Being under the line is a statement about paperwork, not about risk. The overstatements we find are not usually fraud. They are the ordinary result of books kept for a tax return rather than for a sale: personal spending run through the business, cash basis timing that flatters one year, a family member on payroll, one-time revenue sitting next to recurring revenue.
None of that behaves differently at $2.9 million than at $3.1 million. If your deal has heavy add-backs, related-party rent, cash-basis books maintained by the owner, or one customer carrying an outsized share of revenue, the report earns its cost whether or not anyone requires it.
Two things to do early.
Confirm the loan type with your lender in writing. Deals get re-characterized during underwriting, and a report commissioned on the wrong assumption is a report that may have to be redone.
Ask how the lender wants it commissioned. The report has to be prepared by and for the lender, so a report you engaged yourself will not satisfy the requirement no matter how good it is. That is an expensive thing to discover at underwriting.