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Employee capital invested alongside a fund is supposed to prove that the people picking deals share the downside. Drafted loosely, GP employee co-invest in LPAs can do the opposite. ILPA takes the view that a general partner should not be able to co-invest in select underlying deals, and that its whole equity interest should come through a pooled fund vehicle whose sharing percentage cannot decrease. That principle explains much of what a modern limited partnership agreement is trying to control when partners and employees put personal money to work next to limited partner money: pooled exposure rather than deal selection, disclosed allocation rather than informal discretion, and controlled financing rather than silent leverage.
GP employee co-invest means capital committed by a sponsor’s principals, partners or staff alongside the fund. It can sit inside the GP commitment, run through a pooled employee vehicle, or flow through a feeder or special purpose vehicle organised by the sponsor.
The LPA governs the fund itself: its life, commitments, capital calls, fee and waterfall economics, limited partner rights, reporting and restrictions on the general partner. Employee participation touches almost every one of those provisions, which is why it rarely lives in a single clause.
Four questions drive the drafting. Is employee money counted toward the GP commitment or additional to it? Does it participate in every investment or only selected ones? Do employees pay the same fees and carry as limited partners, or none? Can they pledge, finance, transfer or walk away from the position?
| Structure | Who invests | Main documentation issue | LP concern |
|---|---|---|---|
| GP commitment via pooled vehicle | Sponsor entity, funded by principals and employees | Commitment size, funding source, whether the sharing percentage can fall | Alignment shrinking or becoming deal-selected |
| Employee co-invest vehicle | Partners and staff, directly or through a feeder | Vehicle agreement plus LPA permissions, conflicts and transfer rules | Better economics or selected deals for insiders |
| Affiliate or parallel vehicle | GP affiliate, related fund or separate account | Same securities and same terms standard, pro rata expense sharing | Allocation fairness and fee leakage |
| LP co-invest SPV | Selected LPs or third parties | SPV agreement, follow-on rights, exit rights | Fair allocation among LPs, fund concentration |
| Partner lending programme | Employees borrowing against their fund interests | Pledge of interests and distribution rights, lender consent | Leverage weakening alignment, forced transfer on default |
The terminology is easy to misuse. “Co-invest” can describe limited partner participation in a portfolio company, sponsor employee participation in the fund, or management rollover at the asset level. The provisions differ in each case, and conflating them produces poor diligence.
The main fund LPA sets the perimeter: who may invest alongside the fund, what the GP commitment is, how conflicts are handled and which transfers are permitted. It rarely contains the operating detail, because employee participation is usually implemented through related documents that need to be read together.
An LP reading only the LPA may miss the provisions that alter the economics. The better diligence request is for the employee vehicle documents and the allocation policy before closing, rather than after a conflict has already surfaced.
The economic conflict is simple. If employees choose which deals to back with personal capital, they can concentrate in the assets they believe in and skip the ones they are less sure about, while limited partners hold the full portfolio.
ILPA’s position is that the GP’s whole equity interest should come through a pooled fund vehicle, with a sharing percentage that cannot decrease, although an annual election to increase the co-invest percentage may be permitted. That asymmetry is deliberate. Alignment can go up. It should not quietly go down.
Anti-cherry-picking language works only if it captures the right parties. Drafting that binds the general partner while leaving individual partners, family vehicles or unnamed affiliates free to participate selectively offers little protection.
Eligibility for employee participation is usually a function of seniority, and in financing programmes it can also turn on net worth thresholds. Broader access across the employee base may require additional credit support where a lender is involved.
Funding mechanics need to match the fund’s. If the employee vehicle responds to the same capital calls on the same schedule, its exposure tracks the fund. If it funds late or in a lump sum, entry values and return profiles diverge.
Default provisions deserve close attention because an employee who fails to fund a call transfers the shortfall to someone else. The LPA and vehicle documents should state whether that burden falls on the sponsor, the remaining employees or the fund.
ILPA’s guidance runs in a clear direction. Suitable opportunities received by the GP, the manager, key persons or affiliates should go to the fund first where they fit the strategy and capital is available. Co-investment frameworks should be disclosed in the PPM, the LPA and regulatory filings, covering how opportunities, interests and expenses are allocated among the fund and co-investors.
Where parallel vehicles or GP affiliates participate in a co-investment opportunity, ILPA’s standard is the same securities on the same terms as the fund’s limited partners, with fees and expenses allocated pro rata. These are influential best-practice positions rather than binding law, and market documents vary.
The practical test for an LP is whether the allocation framework is written down, disclosed and reviewable, rather than left to sponsor discretion.
Do not assume employee capital is fee-free and carry-free. Reduced or eliminated management fees and carried interest are common for limited partner co-investments through SPVs, which is a different arrangement from a sponsor employee vehicle.
A separate vehicle can carry its own economics and its own waterfall, which means separate accounting, separate bank arrangements, separate tax filings and separate reporting. Carta’s work on co-investment structures makes the operational point plainly: an SPV is a distinct legal entity with its own administrative load.
Expense allocation is the quieter issue. Broken-deal costs, vehicle formation costs and administration fees all need an owner, and a framework that pushes them to the fund while benefits accrue to insiders is a real transfer of value.
The following is illustrative, not a sourced transaction. A buyout sponsor forms a pooled employee vehicle to fund part of its GP commitment. The vehicle takes a fixed percentage of every fund investment and cannot opt out of individual deals. Employees fund calls directly or through a sponsor-arranged lending programme secured on their interests. Follow-ons are funded pro rata on the same terms as the fund, exits occur simultaneously at the same valuation, and any pledge requires GP consent under the transfer provisions.
The result is that employee returns move with fund returns, and an underperforming deal cannot be excluded from the insider book.
Goldman Sachs notes that co-investment documentation is largely standardised and that investors should concentrate on follow-on offerings and exit rights. The same focus applies to employee vehicles, for a sharper reason: insiders influence timing.
Participating at the same time and the same valuation as the fund removes the argument about entry price. Different timing produces different IRR and MOIC outcomes on identical assets, and that gap is difficult to defend to an LPAC after the fact.
ILPA supports restricting transfers of real or economic interests in the GP, with notification to LPs where a transfer is intended, and proactive disclosure of management company ownership plus notice when that ownership changes.
Departure mechanics decide whether alignment survives turnover. The vehicle documents should specify whether a leaver is bought out, forfeits unvested interests, continues to hold and fund calls, or transfers to a permitted transferee. Each answer changes the amount of employee capital still at risk in year six.
Sponsor-organised lending programmes let partners and senior employees borrow to fund capital calls or other permitted purposes. The loans are secured on the participant’s limited partnership interests and rights to distributions, with repayment driven by those distributions.
Structures vary. A lender may advance directly to individuals, or to an SPV or feeder, with security cascading from the employee’s interest up through the vehicle to the lender.
Two consequences follow for the fund documents. Transfer and pledge restrictions must permit or expressly control the security package, because a blanket prohibition can break the financing. Distribution mechanics also need to accommodate mandatory prepayment, because the lender is looking at the same cash the LPA directs to the employee.
Leverage does not change fund-level economics, but it changes the employee’s personal risk. Capital funded entirely with borrowed money is a thinner form of skin in the game than capital funded from savings, and an LP underwriting alignment should know which it is looking at.
For an LP, the judgement is whether employee exposure can diverge from the fund’s, even if the stated purpose is alignment. Pooled participation, same-securities terms, disclosed allocation and controlled pledges keep the two sets of outcomes locked together. Discretionary participation, undisclosed affiliate vehicles and unrestricted financing let them separate at exactly the moments where separation is most valuable to insiders.
Loose drafting rarely shows up in year one. It shows up when a single asset outperforms the rest of the portfolio, and the employee book turns out to be weighted toward it.
P.S. If LPA terms and GP-LP economics are part of your day job, check out our Premium Resources for fund and waterfall models, PE and LP databases and more tools to help you advance your career.
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