Your tax return shows what the business earned for you, under the choices you made for tax. A buyer wants to know what it will earn for them. To get there, they "normalize" the earnings: they remove costs a new owner wouldn't carry, add costs a new owner would, and strip out one-time events. If you do this work first, with documents, you control the starting point of the conversation. If you don't, the buyer's accountant does it, and their version is rarely generous.
This guide explains the method with a worked example. It is general business information, not accounting or tax advice. Your accountant should review any schedule before it goes to a buyer, and a Chartered Business Valuator forms an independent view if you commission a valuation.
The core idea in one paragraph
Normalized earnings answer one question: what would this business earn in a typical year under a new owner who runs it at arm's length? Every adjustment you propose has to pass two tests. Would a new owner really not incur this cost (or really incur this extra cost)? And can you prove the amount?
Common adjustments
Usually accepted when documented:
- Owner pay above market. If you pay yourself $260,000 and a capable general manager would cost $140,000 plus benefits, the difference can be added back under an EBITDA-style view.
- Family members paid for little or no work. Their pay is added back, but only if the work doesn't need replacing.
- Personal expenses through the business. Personal portions of vehicles, phones, travel and meals, if you can show what they were.
- Truly one-time costs. A lawsuit settlement, a relocation, a one-off consultant for a project that won't recur.
- Non-operating items. Investment income, gains on selling old equipment, interest on shareholder loans that won't continue.
- Above- or below-market rent to a related landlord. If you own the building through another company and charge the business less than market rent, a buyer will adjust earnings down to market rent.
Usually rejected or heavily discounted:
- "We would have earned more if..." projections.
- Recurring repairs labelled one-time.
- Marketing spend you want to call discretionary. If the business needs it to keep revenue, it stays.
- Anything without a document behind it.
A worked example
Here is a fictional service company, simplified, for one year.
| Line | Amount |
|---|---|
| Revenue | $2,400,000 |
| Reported pre-tax profit | $180,000 |
| Owner salary and bonus (in expenses) | $260,000 |
| Spouse on payroll, no operating role | $55,000 |
| Personal share of two vehicles | $18,000 |
| One-time legal settlement | $40,000 |
| Rent paid to owner's holding company | $36,000 (market rent is $60,000) |
Step 1: add back the owner pay above market. A replacement manager is estimated at $150,000 including benefits. Add back $260,000 − $150,000 = $110,000.
Step 2: add back the spouse's pay. No operating role, so no replacement needed: $55,000.
Step 3: add back the documented personal vehicle use: $18,000.
Step 4: add back the one-time settlement: $40,000, with the settlement agreement as support.
Step 5: adjust rent to market. The buyer will pay $60,000, not $36,000, so subtract $24,000.
| Amount | |
|---|---|
| Reported pre-tax profit | $180,000 |
| + Owner pay above market | $110,000 |
| + Spouse payroll | $55,000 |
| + Personal vehicle use | $18,000 |
| + One-time legal settlement | $40,000 |
| − Rent to market | ($24,000) |
| Normalized pre-tax earnings (before interest, depreciation and amortization adjustments) | $379,000 |
The business that "made $180,000" earns about $379,000 for a new owner. That is the number a buyer's model starts from, if every line survives scrutiny.
Why documentation is worth real money
Buyers commonly price private businesses as a multiple of normalized earnings. Purely for arithmetic, and not as a guide to what any business is worth, suppose a buyer applied a multiple of 3.
- If the $18,000 vehicle add-back is documented with logbooks and accepted, it adds $54,000 to price at that multiple.
- If it is undocumented and rejected, it adds nothing. Worse, it may make the buyer doubt your other adjustments.
The same logic runs in reverse for adjustments that reduce earnings. Hiding below-market related-party rent doesn't make it go away; the buyer will find it and may trust the rest of your numbers less.
SDE or EBITDA: which lens applies
Smaller owner-operated businesses are often described using seller's discretionary earnings (SDE): normalized earnings with all of one owner's pay and benefits added back. The question it answers is "what would one working owner take home?" In the example, SDE would add back the full $260,000 owner pay instead of $110,000, giving $529,000.
Larger businesses, and most buyers who will hire a manager, look at EBITDA-based measures, adding back only the excess over a market salary, as we did above.
Mixing the two is a common mistake. Know which one your likely buyers use, and don't quote an SDE figure to a buyer who thinks in EBITDA.
Working capital: the adjustment most sellers miss
Many agreements set a working-capital target: the level of receivables plus inventory minus payables that the business must deliver at closing. If you deliver less, the price goes down.
Why it matters: seasonal businesses swing a lot. A landscaping company's receivables in July look nothing like January's. If the target is set using a peak month and you close in a trough, you can lose real money at closing. Tracking month-end working capital for 12 to 24 months before a sale gives you, and your lawyer and accountant, the evidence to argue for a fair target.
Asset allocation in an asset sale
In an asset purchase, the price is split across the assets bought. The Canada Revenue Agency's buying-a-business page explains that the allocation follows the prices in the agreement if they are reasonable, with goodwill taking the remaining balance, and that a share purchase does not change the tax values of the corporation's assets. Buyers and sellers often prefer different allocations because the tax results differ. This is squarely your accountant's area, but a clean asset register makes the conversation shorter.
Building your schedule: a checklist
- Choose your years: usually the last three full fiscal years plus year-to-date.
- Start from the financial statements your accountant prepared.
- List every proposed adjustment in rows, with years in columns.
- For each row, record: the reason, the amount by year, the supporting document, and whether it is a one-time or ongoing difference.
- Move undocumented items to a separate "unsupported" section rather than deleting them.
- Estimate a market replacement cost for your role, with a short note on how you arrived at it.
- Note related-party arrangements (rent, loans, shared staff) and adjust to market both ways.
- Track month-end working capital in a separate tab.
- Ask your accountant to review it, and keep their comments.
- Update it every year-end.
Mistakes that cost sellers
- A sudden profit jump in the sale year. Buyers will ask why. If the answer is "I stopped spending on marketing," they will add it back as a cost.
- Optimistic replacement salaries. Claiming your job can be done for $70,000 when a buyer knows it can't undermines the schedule.
- Calling a pattern a one-off. Three "one-time" expenses in three years is a recurring cost.
- Forgetting to adjust downward. Below-market rent, unpaid family help and deferred maintenance all reduce normalized earnings. Show them first.
Where to go next
If your schedule would be thin on documents today, start the habit now; the valuation readiness service exists for that. The three-year runway guide explains why full clean years matter, and the data room checklist shows where the schedule sits among everything else a buyer will request. To go through your numbers, call, text or email.
Frequently asked questions
What's the difference between SDE and EBITDA?
Seller's discretionary earnings (SDE) adds back all of the owner's pay and benefits, so it shows what one owner-operator would take home. EBITDA-based measures assume a paid manager instead, so only the excess over a market salary is added back. Smaller owner-run businesses are often discussed in SDE terms, larger ones in EBITDA terms; your adviser will tell you which applies.
Will buyers accept all my add-backs?
Only the ones you can document and that a new owner genuinely would not incur. Expect every add-back to be questioned. Undocumented ones are commonly rejected or treated as negotiating points.
Can I add back cash sales that weren't recorded?
No. Income that was not reported cannot be used to support a price, and raising it creates serious tax and legal problems. Speak to your accountant and lawyer about any history of this before you go near a buyer.
Who should prepare the normalization schedule?
You and your accountant, ideally with someone who has seen how buyers test it. A Chartered Business Valuator will form their own view if you commission a valuation, but a well-prepared schedule makes their work faster.
Sources
- Canada Revenue Agency: Buying a business (2026-10-23)
- CBV Institute (2026-10-23)