Key Takeaways
- • K&L Gates outlines how Asia-based private fund managers can use carried interest and co-investment plans to attract and retain talent, align participants with investors, and potentially achieve tax efficiencies.
- • Carried interest plans give participants a share of fund profit distributions without requiring a passive investment, while co-investment plans require participants to make a passive capital commitment to one or more funds.
- • Managers can fund participant co-investments through a standard cash approach, a deemed loan approach, or a free share approach, each with different tax and risk implications.
- • Structuring options include an equity arrangement through a Carry Vehicle, often a special limited partner (SLP), or a contractual cash-based arrangement that is lower cost but likely less tax efficient in Hong Kong and Singapore.
- • Fund-wide participation is far more common than deal-by-deal participation, as external LPs generally prefer fund-wide exposure to limit conflicts of interest.
Summary
According to a primer published by K&L Gates, in conjunction with its Singapore office K&L Gates Straits Law LLC, management participation in fund performance through carried interest and co-investment plans has long been standard for US private equity, real estate, and venture capital funds, and many Asia-based private fund managers have recently adopted similar programs. The article identifies several advantages of these plans: attracting and retaining top talent, creating "skin in the game" alignment with external investors, shifting compensation toward upside rather than fixed pay, encouraging long-term commitment, and potential tax efficiencies.
The primer distinguishes between the two core components. Under a carried interest plan, participants share in fund profit distributions without necessarily making a passive investment. Under a co-investment plan, participants make a passive capital commitment and receive a return of capital and profits. Many managers combine both into a single plan. The article also notes that "co-invest" carries a different meaning in a participant plan than in a third-party LP's co-investment right, which allows an LP to invest additional capital into specific deals.
On structure, a plan may be an equity arrangement, in which participants hold interests in a Carry Vehicle such as the GP or a special limited partner (SLP), or a contractual arrangement entitling participants to cash payments tied to fund performance. The article notes that SLPs are more common for established managers because the SLP, unlike the GP, does not carry unlimited liability for fund obligations, and because it separates plan economics from GP control. A contractual approach is cheaper and more administratively convenient but is likely less tax efficient in Hong Kong and Singapore.
Funding options for co-investment include the standard cash approach, a deemed loan approach (repaid from future distributions, with nonrecourse variants adding manager downside risk), and a free share approach, in which the manager funds the co-investment as part of compensation. The free share approach can aid retention through vesting, but the article warns it may be taxable to the participant and may reduce favorable treatment of carried interest.
Finally, the primer addresses fund-wide versus deal-by-deal participation. Fund-wide structures are easier to administer and reduce cherry-picking concerns, while deal-by-deal structures can incentivize individual deal teams more precisely. Carry points, which quantify each participant's share of carried interest as a percentage, complete the framework.
The primer distinguishes between the two core components. Under a carried interest plan, participants share in fund profit distributions without necessarily making a passive investment. Under a co-investment plan, participants make a passive capital commitment and receive a return of capital and profits. Many managers combine both into a single plan. The article also notes that "co-invest" carries a different meaning in a participant plan than in a third-party LP's co-investment right, which allows an LP to invest additional capital into specific deals.
On structure, a plan may be an equity arrangement, in which participants hold interests in a Carry Vehicle such as the GP or a special limited partner (SLP), or a contractual arrangement entitling participants to cash payments tied to fund performance. The article notes that SLPs are more common for established managers because the SLP, unlike the GP, does not carry unlimited liability for fund obligations, and because it separates plan economics from GP control. A contractual approach is cheaper and more administratively convenient but is likely less tax efficient in Hong Kong and Singapore.
Funding options for co-investment include the standard cash approach, a deemed loan approach (repaid from future distributions, with nonrecourse variants adding manager downside risk), and a free share approach, in which the manager funds the co-investment as part of compensation. The free share approach can aid retention through vesting, but the article warns it may be taxable to the participant and may reduce favorable treatment of carried interest.
Finally, the primer addresses fund-wide versus deal-by-deal participation. Fund-wide structures are easier to administer and reduce cherry-picking concerns, while deal-by-deal structures can incentivize individual deal teams more precisely. Carry points, which quantify each participant's share of carried interest as a percentage, complete the framework.
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