To reduce the safety loss of property caused by a distribution transformer fault and improve the operational stability of power system, a phase compensation method of distribution transformer differential protection based on wavelet transform is proposed. First, considering the fluctuation of line mode traveling wave current and the absolute value of its gradient, it is judged whether there is a fault in the distribution transformer. That is, a protection startup criterion is created. Secondly, it determines the fault area according to the energy ratio of the equivalent line mode traveling wave differential current, calculates the initial modulus of reversing the traveling wave differential current under the fault area of the wavelet transform, and obtains the maximum value of the wavelet transform modulus. Finally, by creating a fault pole selection criterion to obtain the fault type, the excitation current is calculated when the distribution transformer is closed without the load in a fault state. Also the changes of excitation inrush current and internal fault current are judged, and the phase compensation of differential protection of the distribution transformer is realized in combination with the opening and closing of the protection output signal. Simulation results show that this method can effectively identify faults in the area, has strong reliability and effectiveness, and under load conditions, the phase difference of voltage and current after phase compensation is consistent. It also has better stability. This work is supported by the National Key Research and Development Program of China (No. 2017YFB0903100).