A hurdle rate, also called a preferred return, is the minimum annual return a private fund must deliver to its limited partners before the general partner is entitled to collect any carried interest.
In plain terms
Think of it as a floor the fund has to clear before the manager gets paid a performance fee. If a fund’s hurdle rate is 8% and it returns 6% for the year, the general partner collects its flat management fee but no carry — the LPs get everything. Only returns above the hurdle become eligible for the carried-interest split, and even then not immediately: the distribution waterfall usually gives the GP a catch-up tranche first.
How it works
Buyout, growth-equity, and infrastructure funds typically write the hurdle into the limited partnership agreement as a compounding annual rate — commonly 8% — applied to each dollar of LP capital from the day it’s called until it’s returned. Private credit funds, which target lower absolute returns, often set the hurdle at 6–7% instead. Venture funds frequently skip a hurdle altogether, since a single outsized winner can make the preferred-return math irrelevant to the outcome.
SEC filings for publicly registered vehicles show the mechanics in unusually plain language. TCG BDC, Inc.’s registration statement sets its hurdle at 1.50% per quarter — 6% annualized — meaning the manager earns no incentive fee in any quarter where pre-incentive-fee net investment income falls short of that rate, and only reaches its full 20% share once income clears a separate, higher “catch-up” rate.
The numbers
- Standard buyout/growth-equity hurdle: 8% annually, the long-running industry default for institutional private equity.
- Private credit hurdle: typically 6–7% annually, reflecting lower target returns.
- Example from an actual SEC filing: 1.50% per quarter (6% annualized), per TCG BDC’s Form N-2.
- Venture capital: commonly no hurdle rate at all.
- What crosses the hurdle: only the GP’s carried interest is gated by it — the management fee is charged regardless of performance.
What people get wrong
That clearing the hurdle rate means the GP suddenly earns 20% of everything above it. In practice, a catch-up tranche usually lets the manager collect a disproportionate share of profits just above the hurdle — often up to 100% of the next slice — until its total take equals the agreed carry percentage on all profits, hurdle included. A “high” hurdle rate can also be cosmetic if the catch-up is generous enough; the hurdle and the catch-up rate have to be read together, not separately, to know how investor-friendly a fund’s terms really are.
Related
Read more: Hedge Funds and Private Equity: The Other Engine of Modern Finance Wealth · Alternative Assets: Investing Beyond Stocks and Bonds
See also: Two and twenty · Distribution waterfall · Clawback · LP and GP