Objectives of structuring a capital venture fund.
Investors would like to see their liability for their investment in the fund limited to the amount of their investment, as they will not be usually playing an active part in the management of the investments.
Avoiding an additional level of tax
The investors main requirement is to avoid tax payable once receiving a dividend and then again paying a tax when the investments are realized.
Suitability to all kind of investors
It is desirable to have a single fund structure for all types of investors, whether they are exempt pension funds, insurance companies, banks, industrial or trading companies or private individuals. Often there are multiple layers of funds – a feeder fund that would get funds from one type of investors and then make investments in the venture fund.
Tax efficient management charge
If possible the management charge should be structured to minimize the impact of the irrecoverable value added tax on fund.
Tax efficient carried interest.
Carried interest is normally structured as an interest in the fund itself although it could structured as a bonus management charge. There is trade-off or a fine balance between the tax efficiency and the management charge to optimize the financial structure.
Self Liquidating fund
The most typical commercial structure for a venture capital fund is the limited life self liquidating fun, often structured as a limited partnership. Here a number of investors, which are usually institutions, commit to advance up to a certain amount to the fund during its lifetime. Commitments are drawn down as funds are needed to make investments or pay costs, expenses or management charges. Usually, proceeds of sale are not reinvested and often the fund manager raises a new fund in approximately two to three years.
Funds that don’t give dividends and proceeds, and instead reinvest them in further investments are evergreen funds. Often, a resolution will be put to the participants of the fund to consider liquidation after a set of years. It also means that the investment will not be able to realize their investments by selling the entire interest in the fund or by waiting until its liquidation date.
Club/Parallel Investment arrangements
Some arrangements are not structured as funds at all but are merely investment clubs or a series of parallel management agreements between investors and a particular fund manager.
Non discretionary funds
This is a case where the fund manager has no discretion on the funds, and it is the client who take the decisions of making investments.
In some cases, it is not clear whether one is really looking at a fund which is designed to make and dispose of investments with a view to realizing the capital profit from the sales of investments individually or whether what is being done to build a holding company which will retain the investments or will instead realize itself by an initial public offering on stock exchange.
The limited-partnership organizational form has important tax and legal considerations. Limited-partnership income is not subject to corporate taxation instead income is taxable to the individual partners. Also, partnerships can distribute securities without triggering immediate recognition of taxable income: the gain or loss on the underlying asset is recognized only when the asset is sold. To qualify for this form of tax treatment, partnerships must meet several conditions: (1) A fund’s life must have an agreed-upon date of termination, which is established before the partnership agreement is signed. (2) The transfer of limited partnership units is restricted; unlike most registered securities, they cannot be easily bought and sold.
(3) Withdrawal from the partnership before the termination date is prohibited. (4) Limited partners cannot...
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