Hedge fund carried interest is a key component of compensation for fund managers, representing a share of the fund’s profits earned beyond a specified return threshold. This incentive aligns the interests of fund managers with those of investors, encouraging strong performance and effective portfolio management. Typically, carried interest is only earned if the fund achieves predetermined financial targets, often referred to as the “hurdle rate.”

In the context of hedge funds, carried interest is distinct from management fees, which are fixed payments for overseeing the fund’s operations. Carried interest is performance-based and generally constitutes a significant portion of total earnings for successful fund managers. This compensation structure motivates managers to pursue profitable investment strategies while managing risk effectively.

Tax treatment of hedge fund carried interest has been widely discussed in the United States. Traditionally, carried interest is taxed at capital gains rates rather than ordinary income rates, which can result in lower tax liability for fund managers. Understanding the nature and structure of hedge fund carried interest helps investors and financial professionals evaluate fund performance, manager incentives, and potential regulatory or tax considerations, offering insight into a critical aspect of investment management.