Distribution Waterfall

A distribution waterfall describes how money flows out of a private fund as investments are sold or generate income. Think of it as a series of buckets filled in strict order: capital is returned first, then the preferred return is paid, then the GP catch-up tier, and finally remaining profits are split between the general partner and limited partners according to the agreed carried interest percentage. Only when one bucket is full does the water spill into the next.

Two broad structures exist and matter significantly to investors. A European waterfall (also called a whole-fund waterfall) requires that LPs receive back all contributed capital and their preferred return across the entire fund before the GP earns any carry. A deal-by-deal waterfall allows the GP to earn carry on each profitable investment as it is realized, even if other investments in the same fund have not yet been resolved. The deal-by-deal approach can result in LPs paying carry earlier — and potentially more in total — making the clawback provision especially important in those structures.

Families exploring private markets at the scale described on this site and above often find that waterfall mechanics vary considerably between funds. A qualified attorney should review the actual limited partnership agreement, as the economic implications of waterfall structure can be substantial over a fund's full life.