Tie the reported revenue to the bank deposits.

Reported revenue is a claim. Bank deposits are evidence. Set monthly revenue against monthly deposits for twenty-four to thirty-six months, name every reconciling item instead of netting them out, then corroborate with merchant settlement statements, system exports, and filed sales tax returns. That arithmetic is your floor, not a substitute for whatever your lender must obtain.

How do I test whether the revenue is real before anyone orders a quality-of-earnings report?

Proof of cash is the procedure. Reported revenue by month is set against bank deposits by month for twenty-four to thirty-six months, and every difference is named rather than netted. Corroborating records follow, each one either written by a third party or filed with a government. Whether a lender must also order a formal report depends on the deal.

The rule is simple. A profit and loss statement is a document the seller made. A bank statement is a document the bank made. When they disagree, the bank statement is the better evidence, and the gap is the number you negotiate against.

At this deal size formal financial diligence has long been skipped, and the arithmetic got skipped with it. The lending rules are changing, as set out below. The arithmetic is a spreadsheet, a stack of statements, and a weekend.

What is a proof of cash, and how do I run twelve months of it myself?

A proof of cash is a month-by-month reconciliation of reported revenue to money that actually arrived in the bank. The build is one row per month, with columns for reported revenue, total deposits, and each named reconciling item. Run twelve months first, then extend to twenty-four or thirty-six.

Collect the inputs in order:

• Bank statements for every account, in the bank’s own file, all pages, balance rolling forward month to month. Have the seller ask his bank to confirm every account open under the business EIN, so the one nobody mentioned surfaces.
• A monthly profit and loss export from the accounting file, not a typed summary and not an annual column.
• The filed federal returns for the same fiscal years, so the monthly rows can be tied to reported gross receipts.

Then name the differences. Do not net them. Netting hides what you needed.

• Deposits that are not revenue: owner contributions, shareholder loans, line of credit draws, transfers between the business’s own accounts, tax refunds, insurance proceeds, equipment sales, rebates.
• Revenue that never becomes a deposit: processing fees and platform commissions withheld before funding, refunds and chargebacks netted out of settlements, tips paid out, cash spent from the drawer, invoices unpaid.
• Money that was never the seller’s: sales and use tax collected, freight collected and remitted, customer deposits held.
• Timing: settlement lag, a month ending on a weekend, batch cutoffs, deposits in transit at month end.

Then test three months at the deposit level. Take one heavy month, one light month, and the month before the seller’s growth story begins. Tie individual deposits to daily batch reports and register closes. Aggregate agreement can be produced. Deposit-level agreement is far harder to fake.

Set a tolerance and hold it. After the named items, each month should close to a small residual. The one month that will not close is the reason you ran the exercise. Do not average it into the other eleven.

I ask for the bank statements before I ask for the profit and loss. I do not accept a spreadsheet where the bank’s own statement exists.

Which documents verify revenue better than the seller’s financial statements?

Four records outrank the seller’s internal statements: filed federal returns confirmed by IRS transcript, bank statements, merchant processor settlement statements, and filed state sales and use tax returns. Two are written by third parties, two by the seller but filed with a government. The system export sits beside them as the operating record.

Ask your lender early to send the seller the IRS transcript authorization. SBA lenders verify tax data against IRS records, not the copies handed over in the data room, and a transcript that does not match the returns in the file is an item a lender will stop and work through. That requirement sits in an operating procedure that gets revised.

Form: IRS Form 4506-C, IVES Request for Transcript of Tax Return, or IRS Form 8821 where the lender uses it. Stated as of September 2026.

Four records, four different authors, one number. Where they land close together, the revenue line is corroborated. Where one of them will not join the others, that gap is the deal.

What changes if the books are cash basis rather than accrual?

Cash-basis books record revenue when money is collected and expenses when money is paid. Accrual books record revenue when earned and expenses when incurred. On cash-basis statements, movement in working capital is disguised as performance, so the trailing twelve months can show growth or decline that never happened.

Small businesses commonly use the cash method, and federal law does not permit it universally. C corporations and partnerships with a C corporation partner are generally barred from the overall cash method, subject to exceptions for farming and qualified personal service corporations and to an inflation-adjusted gross receipts exception. Tax shelters are barred whatever their receipts. Any method must also clearly reflect income. Ask which method the books use, which the return uses, and whether they match.

Law: 26 U.S.C. 446(b); 26 U.S.C. 448(a), (b), (c); 26 C.F.R. 1.446-1(a)(2), (c)(2)(ii).

Build a twelve-month accrual bridge wherever the business collects before it delivers or delivers before it collects. Subscriptions, memberships, prepaid plans, retainers, and progress billings all call for one. You are not producing financial statements. You are testing whether the earnings you are paying a multiple on were earned when claimed.

Do deferred revenue and prepaid service contracts reduce the purchase price?

Not by operation of law. Deferred revenue is money already collected for work not yet performed, so it behaves like debt you assume, but it comes off the price only if you negotiate that into the letter of intent or the purchase agreement. The alternative is cash left in the business to fund the work.

Work the timing items as four schedules, dated and in dollars:

• Deferred revenue. Every prepaid contract, membership, package, and retainer, with amount collected, work remaining, and expiration. Price it at your cost to perform, not the seller’s margin.
• Unbilled work in progress. Jobs started and not invoiced, with percent complete and costs incurred. Decide in writing who bills it and who keeps the collection.
• Receivables aging. Buckets at 30, 60, 90, and 120 days, plus concentration. Anything past 120 days is a collection project, not an asset.
• Whether receivables are even being sold. In many asset deals at this size the seller keeps pre-closing receivables and pays pre-closing payables. That is defensible, and it leaves you funding the first payroll and vendor cycle yourself.

Do that arithmetic before you agree to it. Daily revenue times days sales outstanding is the hole you open on day one. Raise it while the loan is still being sized, because price, valuation, and loan amount move together, and a late change can send the file back through underwriting.

Money already collected for work you have not done is not revenue you bought. It is a job you inherited and an invoice somebody else cashed.

The seller says there is unreported cash revenue. What do I do?

Refuse to pay for it. Unreported cash revenue is, by construction, revenue with no filed record behind it, so it cannot be corroborated the way the rest can. It will not support financing, because SBA underwriting runs on tax data verified with the IRS. And it puts your name behind numbers the seller’s returns contradict.

Federal law reaches false statements made to influence a federally insured lender and false statements made to obtain an SBA loan. That is the seller’s problem until you repeat his numbers in a loan file.

Law: 18 U.S.C. 1014; 15 U.S.C. 645(a).

Then go to the state sales and use tax filings. Most states impose some form of successor liability for unpaid sales and use tax on a buyer of the assets, and most of those also provide a clearance certificate or bulk-sale notice procedure that limits it. Both the rules and the notice deadlines are state-specific. Check the statute before closing.

You will hear that the multiple belongs on the real number. There is no real number. There is a reported number with evidence behind it and an assertion with nothing behind it. Pay for the first, in writing, in the letter of intent.

What is a quality-of-earnings report, and when must a lender order one?

A quality-of-earnings report analyzes whether reported earnings reflect sustainable cash flow. Performed by a CPA firm it is a consulting engagement rather than an attest engagement, so it carries no audit opinion and no assurance. Many providers are not CPA firms and are bound by no professional standard. Scope is set by the engagement letter.

Standards: AICPA Statement on Standards for Consulting Services No. 1 (CS Section 100); AICPA attestation standards (SSAE).

Read that scope for four things. Which periods were tested. Whether the preparer touched bank statements and processor settlements or only management’s schedules. Which adjustments were tested rather than merely proposed. Who may rely on it. A report commissioned by the seller or broker is a marketing document with a professional cover.

On the financing side the requirement is moving, and it reaches deals this size. Stated as of September 2026: SOP 50 10 8 governs 7(a) applications receiving an SBA loan number through September 30, 2026, and SOP 50 10 8.1 governs those receiving a loan number on or after October 1, 2026. Under that version, initial acquisition and business expansion transactions with a business purchase price at or above three million dollars require the lender to obtain a quality-of-earnings report, it must include a cash proof tying bank activity to the income statement and the returns, and its adjusted earnings feed the debt service coverage calculation. It is ordered by and prepared for the lender, so one you or the seller commissioned is generally not treated as satisfying it.

A lender applies the version in force when the loan number issues. Ask which version governs your file and confirm the current text on SBA’s own site rather than treating anything here as permanent. Nobody can promise you an approval or a date.

Rule: SBA SOP 50 10 8, effective June 1, 2025 (Information Notice 5000-866746, reissued with technical updates by Information Notice 5000-868665); SBA SOP 50 10 8.1, effective October 1, 2026 (Information Notice 5000-880695). Stated as of September 2026.

What should I do this week, and which documents will I not close without?

Three requests go out this week: bank statements for every account for thirty-six months in the bank’s own files, monthly profit and loss exports for the same period, and merchant processor settlements plus filed sales and use tax returns. The proof of cash is built from those.

Order:

• Build the twelve-month grid: reported revenue, deposits, named reconciling items, residual.
• Tie those twelve months to gross receipts on the filed return, then run the deposit-level test on three chosen months.
• Ask your lender for the transcript authorization now, not after the appraisal, and ask whether your file falls under the version requiring a lender-ordered quality-of-earnings report.
• Schedule the timing items: deferred revenue, work in progress, receivables aging, and whether receivables are in the assets.
• Put the price effect of deferred revenue in the letter of intent, in dollars, before the diligence period closes.

Three documents to refuse to close without: bank statements produced by the bank, federal tax data verified against IRS records, and a third-party revenue record that is neither, meaning processor settlements or filed sales tax returns. Two can be argued with. All three agreeing is as close to proof as this gets.