Ask a buyer what they care about most and they will say the earnings. Ask a seller what they argue about most with a buyer and it is the same thing. The fight is almost never about the tax return. It is about the adjustments you make to it, the ones brokers call add-backs.
After nearly a decade of brokering businesses in Southwest Florida, we can tell you that add-backs decide more deals than any other single topic. They set the price, they shape what a lender will finance, and they are the first place a buyer goes looking for reasons to renegotiate. This fall they matter more than usual, because SBA lenders are looking harder at historical earnings under the rules that took effect October 1.
What SDE Actually Is
Most small businesses in Naples, Fort Myers, and Cape Coral are priced on seller's discretionary earnings, usually shortened to SDE. It answers one question: how much money does this business produce for one working owner before that owner takes anything out?
The starting point is the net income on your tax return. From there we add back the things that belong to you as an owner rather than to the business as an operation: your salary, interest, depreciation, personal expenses that run through the company, and costs that will not happen again. What is left is the cash flow a new owner can expect to work with.
EBITDA is the cousin you hear about on larger deals. It adds back interest, taxes, depreciation, and amortization, but it also subtracts a market salary for a manager. For an owner-operated business under a few million dollars in sales, SDE is the standard. Once a business is big enough to run without its owner, buyers start to look at EBITDA instead.
An Example
Here is an illustration, not a real client. A service company shows $142,000 of net income on its tax return. After the adjustments below, a buyer sees a very different number.
| Item | Amount |
|---|---|
| Net income per tax return | $142,000 |
| Owner salary and payroll taxes | $96,000 |
| Depreciation | $18,000 |
| Interest expense | $9,000 |
| Owner's personal vehicle | $11,000 |
| Owner's family health insurance | $14,000 |
| One-time legal settlement | $7,500 |
| Seller's discretionary earnings | $297,500 |
At an illustrative multiple of 2.5, that is a price near $743,750. Take away a single $20,000 add-back that the buyer will not accept and the price drops by $50,000. That is why we treat every line on this page as something that needs proof.
Add-Backs Buyers and Lenders Accept
The safe ones are the ones a stranger can verify. In our experience these usually hold up:
- Owner compensation. Your salary and the payroll taxes on it, as long as the buyer is going to replace you with themselves.
- Interest and depreciation. Both are on the tax return and easy to confirm.
- Personal expenses run through the business. A vehicle, a phone, insurance, or a club membership, with statements to show they are personal.
- One-time costs. A lawsuit settlement, a hurricane repair, a move. If it happened once and has an invoice, it usually counts.
- Above-market rent to a related party. If you own the building and charge your own company more than the going rate, the difference can be added back, with a market rent comparison behind it.
Add-Backs That Get Thrown Out
These are the ones that cost sellers money at the table:
- Expenses that are really recurring. Calling the same repair a one-time cost three years in a row does not work. A buyer will see the pattern.
- A family member's pay when they do real work. If your spouse runs the front office, someone has to replace them. Buyers will subtract a fair wage.
- Cash that never touched the books. Unreported income is not earnings a lender can count, and it is a legal problem on top of a pricing one.
- Cutting costs the business needs. Adding back marketing, maintenance, or training because you plan to skip it only reduces next year's revenue.
- Add-backs with no paperwork. If you cannot show a receipt, a statement, or a contract, the buyer will assume it is not real.
The Rule We Use
If a skeptical buyer, their CPA, and their lender can each look at the add-back and get to the same answer without calling you, it stays. If it needs your explanation to make sense, expect it to come off.
Why This Matters More Under the New SBA Rules
Most buyers in our market use an SBA loan. Under the updated rules that took effect October 1, lenders look closely at historical earnings and, on larger deals, order an independent review of them. A lender does not care what you meant to spend. It cares what the tax returns and bank statements prove.
That makes the tax return the anchor. An add-back that cannot be traced to your returns, your books, or your bank statements is not likely to survive underwriting, even if the buyer likes the business. If the lender's number comes in below the one the buyer agreed to, the deal either gets repriced or falls apart in the middle of diligence. We wrote more about the changes in our article on the SBA rule changes.
Two Questions Owners Ask Us
Should I clean up my books this year, even if it raises my taxes? Often the answer is yes, if you plan to sell within a couple of years. A buyer prices the business on what the returns show, so every dollar of personal spending you run through the company lowers the earnings they can count. Talk with your CPA about the tradeoff, because the right answer depends on your timing.
Does the multiple change if my add-backs are large? It can. A business where add-backs make up most of the earnings reads as riskier to a lender, and a buyer may pay a lower multiple for it. A business with modest add-backs and strong documentation is easier to finance and tends to hold its price.
How to Get Your Numbers Ready Before You List
- Reconcile your books to your tax returns. If the two do not match, find out why before a buyer does.
- Build a schedule of add-backs for three years. One line per item, with the amount and what it was.
- Attach proof to every line. Invoices, statements, and agreements. A folder you can hand over is worth real money.
- Separate personal from business spending now. Even a few months of clean books helps the next three years look more credible.
- Have your CPA review the schedule. A buyer takes an add-back more seriously when a professional has looked at it.
How We Work Through It With Sellers
Before we price any business, we recast the earnings the way a lender will. We go line by line, tell you which add-backs we expect to hold and which we expect to be challenged, and show you what that does to the price. You hear it from us first, not from a buyer in week six.
Sellers sometimes tell us the number feels low. Usually the business is fine and the paperwork is the issue, and paperwork is something you can fix. If you are thinking about selling in Naples, Fort Myers, Cape Coral, Bonita Springs, or anywhere in Southwest Florida, we are glad to walk through your numbers with you. It costs nothing and the conversation stays confidential.
Want to Know What Your Earnings Look Like to a Buyer?
Send us your last three tax returns and we will show you how a buyer and an SBA lender are likely to see your add-backs. No obligation, and everything stays confidential.
Schedule a Consultation Try the Valuation CalculatorThis article is for general informational purposes. The example is an illustration only and the multiple shown is not a quote or a prediction for any business. Program rules, lender requirements, and terms are subject to change. This is not financial, legal, or tax advice. Consult your own attorney and CPA before making decisions about a sale.