What Is a Cash Proof, and Why Does SBA Now Require One?

Part 1 of Inside the New SBA QoE Requirement

On a recent Quality of Earnings engagement, the bank statements showed large deposits and withdrawals that did not fit the company's normal operating pattern. One of the larger cash infusions landed just before the end of the trailing twelve-month period we were analyzing.

The timing caught our attention because we had already identified a separate accounts receivable collection problem. If the company was having difficulty converting A/R into cash, we needed to understand whether the business was being temporarily supported by cash from somewhere else, or whether the deposits represented something unrelated to operations.

After inquiry, the explanation was reasonable: The owner was launching another business and was periodically using cash from the operating company as a short-term source of funds to acquire real estate and other assets. She would make the purchase with cash, refinance the asset with a new mortgage, and then return the cash to the company. The seller was able to provide receipts and supporting documentation for the transactions.

That explanation was sufficient to account for the unusual cash movements. They were not operating revenue, and the withdrawals were not ordinary operating expenses. But without reviewing the bank activity, we would have seen a large inflow immediately before the TTM cutoff and had no idea what it represented.

That is the practical value of a Cash Proof: It identifies cash activity that does not fit the operating story and forces the analyst to explain it before relying on the reported earnings.

The new SBA requirement

Beginning October 1, 2026, SBA SOP 50 10 8.1 requires a lender to obtain a Quality of Earnings report for an Initial Acquisition or Business Expansion when the Business Purchase Price, as defined by SBA, is $3 million or more. The $3 million threshold is measured before buyer equity, seller debt, or other financing is applied. Owner Buyouts and ESOP or Cooperative transactions are exempt from the QoE requirement.

The independence requirement is also explicit. 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.

For these qualifying transactions, SBA specifically requires the QoE to include a Cash Proof.

The SOP defines Cash Proof as an analysis that reconstructs cash receipts and disbursements by reconciling bank statement data to the income statement and tax return for each period under review. Its stated purpose is to identify discrepancies in income and undisclosed expenses. The work must cover the trailing 12 months and the last two fiscal years.

What a Cash Proof actually does

A Cash Proof is not a test of whether total bank deposits equal reported revenue. That would be too crude to be useful. Businesses receive and disburse cash for plenty of reasons that have nothing to do with operating income.

The cash returned to the company in the opening example was not operating revenue. The withdrawal used to purchase real estate for another venture was not an operating expense. Treating either one as operating activity would distort the economics of the business.

The same issue comes up with interaccount transfers, loan proceeds, credit-card payments, merchant processor settlements, owner contributions and distributions, capital expenditures, and timing differences created by accrual accounting. A good Cash Proof separates those items from normal operations and explains the bridge between bank activity and the financial statements.

The point isn't that every difference is a problem. It's that differences require support before anyone relies on them. In lower-middle-market and owner-operated businesses, they tend to fall into a few buckets:

• Revenue discrepancies: Deposits or merchant processor activity do not appear to support reported sales, requiring analysis of A/R, timing, additional accounts, or other reconciling items.
• Unrecorded expenses: Recurring business costs may be paid from personal accounts or credit cards and never make it into the general ledger.
• Owner and related-party activity: Personal purchases, distributions, contributions, related-business transfers, or other non-operating cash flows may be mixed into the company's bank activity.
• Financing and balance-sheet activity: Loan proceeds, debt payments, asset purchases, and refinancing activity can create large cash movements that should not be confused with operating earnings.

None of these automatically means the business is misstating its results. But until the transactions are understood and documented, the analyst does not know whether reported earnings are actually supported by the underlying cash activity.

Why a P&L is not enough

A general ledger records what was entered into the accounting system. A tax return records what was ultimately reported for tax purposes. Neither one, standing alone, proves that the underlying activity has been completely and correctly captured.

That matters in small-business acquisitions because the books were often built for tax compliance and day-to-day operations, not for a buyer or lender trying to underwrite a transaction. Owners may pay expenses personally, move money among several entities, use multiple bank accounts, or handle merchant processor activity inconsistently. Bookkeeping may also have changed hands several times.

Poor bookkeeping does not necessarily mean poor economics. It does mean the earnings take more work to verify.

The SBA rule raises the stakes

Historically, Cash Proof was one of several diligence procedures a buyer or QoE provider might use to validate reported financial performance. Under the new SBA rule, it becomes an explicit part of the required QoE for qualifying transactions.

The consequence also reaches beyond the diligence report. The lender must use the earnings from the QoE in its Debt Service Coverage calculation. If the resulting DSC does not support the business valuation and proposed debt structure, the loan amount must be reduced. Additional equity may be used to make up the difference.

That means an unresolved cash discrepancy can eventually become a financing issue. If the seller presents $1 million of adjusted EBITDA but the QoE supports materially less recurring earnings after the underlying activity is reconciled, the difference can affect how much acquisition debt the business supports.

What sellers should do before going to market

If an SBA-financed buyer is a realistic possibility, sellers should assume the bank activity will be examined and get ahead of the obvious questions. Bank accounts should be reconciled, business and personal activity should be separated, merchant processor activity should be understandable, owner contributions and distributions should be clearly identified, and expenses paid outside the business should be documented.

Unusual transactions are not necessarily a problem if there is a reasonable explanation and documentation. In the opening example, the large deposits and withdrawals looked concerning until the seller explained what was happening and supported the explanation. The problem would have been leaving those cash flows unexplained.

What buyers should look for

Buyers should pay attention to these issues earlier in the process as well. If the seller cannot readily provide complete bank statements, merchant processor reports, credit-card activity, tax returns, and reasonably reconciled financials, expect the eventual QoE to require more work.

Pay particular attention to large deposits near a reporting cutoff, unexplained withdrawals, transfers to related entities, material changes in A/R, and business expenses paid outside the company. Each may have a perfectly reasonable explanation. The goal is to get that explanation before the lender's underwriting depends on it.

Cash Proof is now part of the underwriting process

Cash Proof is not a new financial diligence concept. At QoEPro, it is one of the ways we test whether reported financial performance is supported by the underlying activity of the business. What is new is that SBA has now made the procedure an explicit requirement for qualifying 7(a) change-of-ownership transactions.

For sellers, that makes clean and explainable cash activity more important. For buyers, it adds another layer of verification behind the earnings used to finance the acquisition. For lenders, the QoE findings now feed directly into Debt Service Coverage and potentially the structure of the loan.

Next in the series: A Cash Proof can explain whether the underlying money makes sense. Part 2 will look at the next problem the new SBA QoE requirement addresses: Reconciling internal books, accountant-prepared financial statements, tax returns, and IRS transcript data when the numbers do not agree.