Carried Interest Calculator

Created by Wei Bin Loo
Reviewed by Dominik Czernia, PhD candidate and Jack Bowater
Based on research by
Martin Goldberg, Robert Wnek, Presley Rodricks, Cynthia Kruth Untangling The “Carried Interest” Controversy Journal of Business & Economics Research (February, 2013)
Last updated: Oct 01, 2022

With this carried interest calculator, we aim to help you to calculate the carry distribution and carried interest of an investment fund. The carried interest is the share of the profit that investors pay to their portfolio manager. Hence, it is essential to understand the carried interest calculation.

We have prepared this document to help you understand what carried interest is and how to calculate carried interest. Besides, we will also explain the definition of the carried interest tax loophole.

What is carried interest? The carried interest definition

Carried interest is the share of an investment fund's profits that is used to pay the general partners or portfolio managers. The carried interest can also be seen as the performance fees of the investment fund.

Most investment funds charge annual fees that help the fund cover its operational expenses. The carried interest, on the other hand, acts as the primary source of income of the portfolio managers. Because the better the fund performs, the higher the carry distributions, the carried interest also acts as the tool to align the interests of the investors and the portfolio managers.

Now, let's look at how carried interest works in practice.

How to calculate the carried interest? The carried interest calcualtor

To understand how to calculate carried interest, let's take Fund Alpha as an example. It has the following information:

  • Initial fund value: $10,000,000;
  • Final fund value: $11,500,000;
  • Hurdle rate: 5%; and
  • Carried interest: 20%.

The carried interest calculator is based on 4 steps:

  1. Calculate the fund return

    The fund return is the performance of the investment fund. We can calculate fund return using the formula below:

    fund return = final fund value / initial fund value - 1

    For our carried interest example, the fund return is equivalent to $11,500,000 / $10,000,000 - 1 = 15%.

  2. Determine the hurdle rate

    The hurdle rate is the minimum fund return that an investment fund must achieve to receive its carry distribution. The hurdle rate for Fund Alpha is 5%.

  3. Determine the carried interest

    The carried interest is the percentage of the total fund return that the investment fund claims as its performance fee. The carried interest for Fund Alpha is 20%.

  4. Calculate the carried interest and carry distribution

    The last step is to calculate the carry distribution using the formula below:

    carry distribution = (final fund value - initial fund value * (1 + hurdle rate)) * carried interest

    If the carry distribution is negative, the investment fund performance is lower than the hurdle rate and so the portfolio managers will not get any carry distributions.

    The carry distribution for Fund Alpha is ($11,500,000 - $10,000,000 * (1 + 5%)) * 20% = $200,000.

That ends our carried interest example of Fund Alpha. You should now be able to answer the question "How does carried interest work?". If you need to make more quick and reliable estimations, you can always use our carried interest calculator.

What is the carried interest loophole?

The carried interest loophole definition, also known as the carried interest tax loophole, says that it's a regulation that allows the portfolio managers to treat the carry distributions they earn as capital gains instead of income.

This means that the portfolio managers only need to pay the capital gains tax on their carry distribution, which is usually much lower than income tax.

FAQ

What is a private equity?

Private equity is described as an investment that invests only in companies that are not listed in the stock market. It is considered as an alternative investment.

What is a hedge fund?

Hedge funds are investment pools that are actively managed by portfolio managers. They use complex strategies and aim to achieve returns that are higher than the market.

Will there be carry distributions if the fund return is lower than the hurdle rate?

No, if the fund return is lower than the hurdle rate, there will not be any carry distributions. It happens when calculated carry distributions are negative.

How do I start investing actively?

To achieve success by investing actively, you need to:

  1. Make sure you have the time to monitor the market constantly.
  2. Make sure you have the relevant knowledge and skills to invest.
  3. Lastly, make sure you are enjoying it!
Wei Bin Loo
Fund return
Initial fund value
$
Final fund value
$
Fund return
%
Carry interest
Hurdle rate
%
Carried interest
%
Carry distribution
$
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