When you’re launching your fund, you’re looking at three main cornerstones that need to be put in place.
Often times these three sections are overseen by three different people, or even three different teams.
They are the following:
One, legal compliance.
Two, fund management.
Three, capital raising.
Today, I’d like to focus in on cornerstone number three.
Specifically, how can a capital raiser get paid, and what role do they play within the fund.
Additionally, we’ll take a look at some of the tax advantages that would incentivize someone to invest in the fund.
There are a couple of different ways that you can receive capital.
Typically most money raisers aren’t even going to be a partner in your fund.
Often times it will be some sort of RIA with either a Series 7 or a Series 65.
Depending on the license you’ll see some different structures in how they represent their client and how they are compensated.
We’ll get to that in a minute.
You can have someone working as an RIA for the fund itself and thus the capital raiser.
The advantage to this is that the RIA can then charge an advisory fee based off of the funds AUM, independent of the performance of the fund’s assets.
This is basically another way that GP’s can make money through the structuring of the fund, and is pretty standard with larger private equity firms.
However, as referenced in past articles and videos, if you are just starting out I would not recommend charging this advisory fee. If you’d like more details on why, please click here.
Now, back to the differences and advantages of working through, or with, a Series 65 versus a Series 7.
Turns out that a Series 65 is actually not paid through a commission at all.
An RIA with a 65 is compensated through an advisory fee, which is either a flat annual fee, or based off of a percentage of the AUM.
The flat fee could be just $2000 a year, or something much higher. The percentage is usually somewhere between .5% – 2%.
Regardless, it is set number. It is is unaffected by the performance of the assets in which the investor is buying into.
A disadvantage here is that you could hypothetically help your client acquire an extremely lucrative position in a fund, and he could chose to terminate your contract.
Meaning, not only would you not be compensated for helping them into their current position, but you wouldn’t even receive what you were banking on with your annual or quarterly advisory fee.
The Series 7 is very different from the 65 in the sense that here you do receive a commission.
The commission comes at the time of the transaction between the investor and the fund.
Essentially, once the money has been raised the responsibility of this individual is over.
He has performed his service, and is free to move on however he would like.
The only real downside is that it is not some sort of perpetual fee like the 65 charges, meaning an RIA using a 7 must rely on his ability to find new deals for his clients.
Something to consider when you are looking at raising money is the tax advantages that come with working with a fund.
The US government has taken measures to incentivize investors, and general partners, to invest in America.
The government believes that these investments will bolster the economy and infrastructure of the nation.
However, investing inherently means taking on risk, and therefore putting your money – or even your time in the case of the GP – into an asset/project/fund where you have no guarantee of making money back.
Recognizing this, the government has said that as you take on risk, we will give you capital gains tax rates.
These rates can be substantially lower than ordinary tax rates that you would have to pay when earning a set salary, or in this case, off of a set advisory fee.
That’s one reason why it can be more advantageous for you, as the fund manager, to not even worry about becoming an RIA and charging an advisory fee.
It’s not a bad option to just focus on the fund’s performance and be compensated through carried interest, which is tax advantaged.
This was a beast.
There are clearly a lot of factors to consider and be aware of when paying off your capital raisers, or whether to become an RIA yourself.
I hope that this was helpful, and provided you with sufficient information to help guide you in making your decisions with your own fund.
Best of luck,
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DISCLAIMER: This content is for educational and informational purposes only. It is not to be taken as tax, financial, or legal advice. You should always consult a legal professional before taking action. Furthermore, this is not a recommendation to buy or sell any security. The content is solely just the opinion of the authors.