Recasting is the process of adjusting your financial statements to show what your true, ongoing earning power is. It’s an essential part of valuation because your tax return might not accurately reflect what a buyer can expect to earn from the business going forward.

Here’s the core idea: your tax return is optimized for tax purposes. You’ve deducted everything you possibly can to reduce taxable income. But a buyer doesn’t care about your tax bill. They care about cash available to service debt and create profit. Recasting removes the tax optimization and shows a cleaner picture of operating earnings.

How Recasting Works

Start with your net income from your tax return or financial statements. Then add back things that reduce income but aren’t real ongoing expenses for the business. The most common add-backs are:

Owner salary — If you’re the owner and you’ve paid yourself a salary, that’s already deducted. A new owner might have a different salary. Recast by adding back your salary and treating the total compensation as flexible. This shows the business’s true profit without factoring in your specific compensation.

Owner perks — Any personal expenses paid by the business (vehicle allowance, phone, insurance, health club, travel, meals with personal benefit). Recast by adding these back. A buyer might or might not continue these expenses, but they should see the true operating profit.

One-time expenses — Lawsuit settlements, major facility repairs, hiring/firing costs, moving expenses, or anything that won’t recur. Add these back because they’re not part of normal operations.

Depreciation and amortization — Non-cash charges that reduce reported income but don’t affect cash flow. Some recasting models add these back.

A Practical Example

Let’s say your business had $200,000 in net income according to your tax return. But looking deeper:

  • You paid yourself a $80,000 salary
  • The business paid your health insurance: $12,000
  • The business covered your vehicle: $10,000
  • You had a one-time legal settlement: $8,000
  • Depreciation and amortization: $5,000

Your recasted earnings would be: $200,000 + $80,000 + $12,000 + $10,000 + $8,000 + $5,000 = $315,000.

That’s the true operating profit available to an owner. If your business sells at 3x earnings, the difference between using $200,000 (net income) and $315,000 (recasted earnings) is significant: $600,000 vs. $945,000. That’s a $345,000 difference in valuation.

This is why recasting matters so much.

What’s Legitimate to Add Back

The rule of thumb: an add-back is legitimate if it’s discretionary (optional for the owner to incur) and non-recurring (won’t happen in future years), or if it’s a personal expense that a different owner might not incur.

Legitimate add-backs:

  • Owner salary (always add back)
  • Personal insurance (health, life, auto)
  • Owner benefits (retirement, bonuses, incentives)
  • Personal use of vehicles
  • Travel with personal benefit
  • Family payroll (paying relatives for work they might not actually do)
  • Hobby expenses disguised as business
  • One-time legal, accounting, or consulting fees
  • Facility repairs or upgrades beyond maintenance

Illegitimate add-backs (don’t do these):

  • Rent to yourself that’s above market
  • Inflated payments to a family member for actual work they do
  • Expenses that are clearly necessary to run the business (you can’t add back rent or utilities)
  • Personal expenses that legitimate businesses incur anyway

The Temptation to Overdo It

Here’s where many sellers get into trouble. Once they understand recasting, they get aggressive. They add back everything they can think of, even if it’s borderline or clearly necessary to operations. A buyer or appraiser sees an aggressive recast and loses confidence. They think, “This seller is trying to hide something or overstate earnings.” And suddenly your credibility is damaged.

Remember: every dollar of add-back is multiplied by your sales multiple. A $10,000 add-back at 3x multiple increases your valuation by $30,000. The temptation to be aggressive is real. Don’t do it.

Instead, be conservative. Add back the clear stuff: owner salary, obvious personal expenses, obvious one-time items. Leave the borderline stuff off. A buyer respects a conservative, defensible recast more than an aggressive one.

Documenting Your Recasting

Legitimacy depends on documentation. If you add back $20,000 in “owner perks,” you need to be able to point to what those are: health insurance ($12K), vehicle ($8K). If you add back $50,000 in one-time expenses, you need receipts or explanations.

When you do a recasting, put it in a schedule that shows:

  • Line item description
  • Amount
  • Justification (why it’s an add-back)
  • Whether it’s expected to recur

This documentation is what your appraiser or the buyer’s accountant will review during due diligence. Strong documentation makes the recast credible. Weak documentation kills it.

Pro Tips for Effective Recasting

Have your CPA or accountant prepare your recast. They understand what’s defensible and what’s not. They’ll prepare a recast that will withstand buyer scrutiny.

Be consistent year-over-year. If you added back $20,000 in owner salary last year and $15,000 this year, explain the difference. Inconsistency raises red flags.

Separate “discretionary” add-backs from “one-time” add-backs. Show them as different categories so the buyer understands the difference.

Use multiple years of data. Showing a three-year average of recasted earnings is more convincing than a single year.

Don’t add back expenses that are necessary to operations. Rent, utilities, insurance necessary to operate—these are real expenses. A new owner will incur them.

Recasting is a powerful tool for showing your true earning power, but it only works if you’re conservative and defensible. Aggressive recasting undermines your credibility. Do it right, document it well, and let the numbers speak for themselves.