Carried interest, often referred to as “carry,” is one of the defining features of private equity and venture capital. It is the share of profits that fund managers earn after limited partners (LPs) have received their capital back along with a preferred return.
For general partners (GPs), carry is the ultimate reward for creating value. For LPs, it is a way to align incentives. For analysts and associates, understanding how carry works – and especially how tiered structures change the economics – is essential.
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Carried interest is a profit allocation, typically 20 percent, paid to the fund manager once the fund achieves a minimum return known as the hurdle rate.
Hurdle rate – the threshold return that LPs must receive before carry is paid, often 7-8 percent IRR
Standard carry – once the hurdle is cleared, the GP typically receives 20 percent of profits above that level
Distribution mechanics – profits are distributed according to a waterfall, which defines the sequence of returning capital, paying preferred returns, and allocating carry
If a fund has an 8 percent hurdle and generates a 12 percent IRR, the GP may collect 20 percent of profits above the hurdle. For a $100 million fund:
LPs first receive their $100 million capital back
LPs then receive an 8 percent preferred return
Profits above that point are split 80/20 between LPs and GP
This simple model, however, is only the starting point. Many funds introduce tiered carried interest to further link GP rewards with performance.
Tiered carry moves beyond a flat 20 percent. It scales the GP’s share of profits depending on fund performance.
Typical structures might include:
10-15 percent carry if IRR is just above the hurdle
20 percent carry if IRR falls within a base performance band (12-20 percent)
25-30 percent or more if IRR exceeds 20-25 percent
This performance-linked structure is designed to reward exceptional results while ensuring LPs retain most of the gains at lower levels.
Assume a fund with the following tiers:
| IRR Band | GP Carry % | LP Share % |
|---|---|---|
| 8% – 12% | 10% | 90% |
| 12% – 20% | 20% | 80% |
| Above 20% | 30% | 70% |
If the fund delivers a 22 percent IRR:
The GP earns 10 percent carry on profits between 8-12 percent
The GP earns 20 percent carry on profits between 12-20 percent
The GP earns 30 percent carry on profits above 20 percent
This waterfall allocation grows progressively as performance improves.
Tiered carry is designed to balance alignment, protection, and motivation.
Alignment of interests – incentivizes GPs to drive superior performance rather than just clear the hurdle
Investor protection – ensures LPs keep most of the early gains when returns are modest
Motivation – provides powerful upside sharing for managers who deliver outsized exits
LPs see it as a safeguard. GPs see it as recognition for value creation beyond expectations.
Protects against overpaying carry on modest results
Aligns compensation more closely with realized returns
Provides comfort in negotiations, especially in first-time funds
Rewards exceptional fund performance
Creates stronger incentives for portfolio company exits at higher multiples
Helps attract and retain top investment talent
Complexity – tiered waterfalls are harder to model and track
Negotiation-heavy – requires careful balancing of LP and GP interests
Potential conflicts – managers may be tempted to push for short-term exits to hit carry tiers, even if long-term value could be higher
Imagine a $500 million private equity fund with the tiered structure above.
Fund performance – after 7 years, the fund generates $1.2 billion in total distributions
Investor capital – LPs receive back their $500 million
Preferred return – LPs receive an 8 percent hurdle, equal to $280 million
Remaining profit – $420 million remains to be shared
Profits between 8-12 percent IRR – GP takes 10 percent, around $16 million
Profits between 12-20 percent IRR – GP takes 20 percent, around $54 million
Profits above 20 percent IRR – GP takes 30 percent, around $30 million
Total GP carry = $100 million, roughly 24 percent of the profit.
In a flat 20 percent carry model, the GP would have received $84 million. The tiered structure increased rewards because performance exceeded expectations.
Recruiters often test candidates on carried interest and waterfalls. Be ready to explain how carry is structured, how it changes under tiered arrangements, and how it ties into fund IRR.
Analysts may be asked to build waterfalls in Excel, testing scenarios with different IRRs and distributions. Accuracy in linking fund cash flows to carry tiers is critical. Make sure to do these models from scratch beforehand.
Associates reviewing LP agreements should check carry provisions for tier definitions, catch-up mechanics, and clawback clauses. Small drafting details can shift millions.
Knowing carry is career-critical. It shapes vesting, clawbacks, pooled vs deal-by-deal, and how fast paper turns to cash. If you can read LPAs, model breaks, and explain shifts from 20% to 30% carry, you stand out in ICs, reviews, and pay talks.
Carried interest structures are evolving. Several trends are reshaping how carry is negotiated:
Increasing tier adoption – especially in growth equity and venture capital funds seeking to attract LPs with more investor-friendly terms
Regulatory scrutiny – tax treatment of carried interest continues to be debated in the US and Europe
ESG-linked incentives – some funds are experimenting with carry tied to sustainability or impact KPIs, alongside financial performance
Co-investment dynamics – with more LPs taking direct stakes, how carry applies to co-investments is under review
For professionals, staying current on these developments is critical. They influence not only fund economics but also fundraising competitiveness.
Carried interest is the economic engine of private equity and venture capital. Tiered structures take this further by rewarding managers not just for clearing a hurdle but for truly outperforming. They balance investor protection with GP motivation and align interests more tightly than flat carry.
For analysts and associates, understanding carry is not theoretical. It shapes how funds are modeled, how LP agreements are structured, and how exits are pursued. Those who can connect carry mechanics to fund strategy and negotiations bring more to the table than just technical skills.
For those looking to deepen their knowledge, structured private equity resources – from waterfall models and fund case studies to annotated LP agreements – make the mechanics of carry much more tangible. Working through these tools bridges the gap between understanding the concept and applying it in practice.
