Define Carried Interest: Hurdle, Catch-Up and Clawback

Short answer: Carried interest is the share of a fund's or SPV's profits paid to the manager, typically after investors get their capital back and, in many funds, a preferred return. It rewards performance and is separate from management fees.

The phrase carried interest is easy to define in one line. The terms that surround it, hurdle, catch-up, clawback and vesting, are what decide how much the manager actually earns and when. This glossary-style guide covers each.

Preferred return, or hurdle

A preferred return is a minimum annual return LPs receive before the manager earns carry. It is common in private equity buyout funds and less common in venture funds and SPVs. The hurdle accrues on contributed capital and is paid through the distribution waterfall. If the fund does not clear the hurdle, the manager earns no carry.

GP catch-up

After LPs receive their capital and preferred return, a catch-up provision lets the GP receive a large share of subsequent distributions until the GP has received its full carry percentage of total profits. A full catch-up means the hurdle affects timing more than the final split. A partial catch-up splits distributions during that phase.

Clawback

A clawback requires the GP to return carry it received if, at the end of the fund's life, it has been paid more than the agreed percentage of cumulative profits. Clawbacks matter most in deal-by-deal waterfalls, where early wins pay carry before later losses show up. Some funds hold back part of carry in escrow to support the clawback.

Carry vesting and allocation

Inside the management company, carry is often allocated among partners and team members and vests over time, so that people who leave early do not keep full carry. This sits in the GP entity's own agreement, not the LPA. For SPVs, carry is usually simpler: one percentage paid on profit at exit.

Questions to answer before you start with define carried interest

Before you finalize terms, write down answers to five questions: how the term is defined, what base it applies to, how it changes over the fund's life, how it interacts with other terms, and how it will appear on LP statements. If the GP, counsel and administrator give different answers, fix the documents before the first close rather than after.

Who should care about define carried interest

This matters most for GPs drafting their first LPA, LPs reviewing fund terms during diligence, and the operations staff or administrators who must calculate these numbers every quarter. Fund economics are negotiated once and calculated for ten years or more, so small ambiguities compound. Experienced LPs often focus their legal review on exactly these definitions, and emerging managers who can explain them clearly signal operational maturity.

Key terms behind define carried interest

• LPA: the limited partnership agreement that sets fund economics and governance.

• Committed capital: the total amount LPs have agreed to invest over the fund's life.

• Preferred return: a minimum return to LPs before the GP earns carry.

• Waterfall: the order in which distributions are paid among LPs and the GP.

• Capital account: each LP's running balance in the fund.

A step-by-step checklist for define carried interest

Use this as a working checklist:

1. Read the definitions section of the LPA carefully.

2. Build a model of the term over the full fund life.

3. Have the administrator replicate the model independently.

4. Reconcile any differences before the first close.

5. Show the calculation in LP statements.

6. Review it again whenever side letters change terms.

Each step has an owner and a date. Write both down. Most problems in private markets operations come from steps nobody owned rather than steps nobody knew about.

Key takeaways

• Carried interest is the share of a fund's or SPV's profits paid to the manager, typically after investors get their capital back and, in many funds, a preferred return.

• The details that matter most are in the documents, so read them before you commit capital or sign a services agreement.

• Good process and the right platform make define carried interest predictable instead of stressful.

• When in doubt, ask for written answers and involve counsel or your tax adviser.

How to evaluate options for define carried interest

When you compare providers or approaches for define carried interest, score each one against these points:

• How the fund document defines the term and its calculation base. Ask for this in writing and compare answers side by side.

• How the administrator calculates and reports it each period. Ask for this in writing and compare answers side by side.

• Whether LPs can audit the math from their capital account statements. Ask for this in writing and compare answers side by side.

• How it interacts with distributions and the waterfall. Ask for this in writing and compare answers side by side.

• Tax reporting consequences on the K-1. Ask for this in writing and compare answers side by side.

• Consistency between the LPA, side letters and the admin's model. Ask for this in writing and compare answers side by side.

A provider that answers all six clearly, with documents rather than slides, is usually a provider that will also be clear when something goes wrong after launch.

Common mistakes with define carried interest

Mistakes usually come from mismatches: the LPA says one thing, the spreadsheet does another, and the LP statement shows a third number. Define terms precisely in the documents, have the administrator model them from day one, and show LPs the math in their statements.

Where Allocations fits

Allocations runs fund administration and SPV operations for private market managers, which includes modelling fees, capital calls and distributions consistently with your documents. Costs are listed on the fees page.

Related reading

• Carried interest explained

• Distribution waterfalls: American vs European

• Fund performance metrics explained

FAQ

How do you define carried interest?

The manager's share of investment profits, paid after investors receive their capital and any preferred return.

What is a typical carry percentage?

Twenty percent is a widely cited convention, but terms vary by fund and SPV.

What is a hurdle rate?

A preferred return LPs receive before the GP earns carry.

What is a GP clawback?

An obligation for the GP to return excess carry if total carry exceeds the agreed share of profits at fund end.

How does Allocations help with define carried interest?

Allocations is an SPV and fund administration platform. It handles vehicle formation, investor onboarding, capital collection and post-close administration such as reporting and tax coordination, with published pricing on its fees page. You can book a demo to walk through your specific setup and timeline.

Book a demo

Want to see how this works in practice? Book a demo with the Allocations team and walk through your next SPV or fund, including timeline and costs.

This article is general information, not legal, tax or investment advice.