Carried Interest / Carry

Carried interest is the performance-based share of profits that a fund manager receives from their fund. It usually only applies once investors have achieved an agreed minimum return. Through carried interest, the manager participates disproportionately when the fund is successful.

A profit share of around 20 percent and a preferred return of about eight percent per year are common reference points. These are guide values only, as actual terms vary by fund and market environment. These may be supplemented by a catch-up phase in which the manager initially receives a disproportionate share until the agreed 20/80 split is restored across all profits. What determines actual cash receipts is the design of the distribution waterfall: under the European model all drawn capital plus the preferred return is repaid to investors before the manager receives carried interest, while the American model distributes deal by deal and therefore pays the manager earlier. Because later losses can erode early gains, a clawback provision is standard, reclaiming excess amounts at the end of the fund's life and regularly secured by escrow accounts or personal guarantees.

The calculation also depends on which costs reduce distributable profits and how unrealised losses are taken into account. A large interim gain therefore does not automatically mean that the manager may retain a final carry payment. Economically the arrangement is the central incentive mechanism of the industry, because it ties the manager's income to investor outcomes, while the management fee accrues regardless of success.

How carried interest is allocated within the management team also deserves attention, because a fund rarely consists of one person and the split binds for years. Separate agreements among the partners with vesting and departure provisions are customary. Investors also care whether participation sits at the level of the individual fund or is pooled across several funds. Both points form part of assessing a team's stability, because they determine the incentives inside the management company.