Limited Partnership Agreement: Waterfall, Key Person, MFN

A limited partnership agreement (LPA, sometimes called the limited partner agreement) is the contract that sets up a private fund: it names the general partner who manages the fund, the limited partners who commit capital, and the rules for fees, carried interest, distributions, key person events and removal.

Most results for the term describe a two-person business partnership. A fund's agreement is a different document, and it's the one managers, investors and their counsel work from.

What does a limited partnership agreement do in a private fund?

Every capital call and every distribution in a fund runs through this one contract. Each limited partner (LP) signs a subscription agreement for a commitment, the most it can be asked to fund. The general partner (GP) draws that money down in capital calls as it finds investments, and the agreement sets how the proceeds are shared when those investments pay out.

The structure is standard enough that ILPA, the Institutional Limited Partners Association, publishes the ILPA model LPA in two Delaware law-based versions, one with a whole-of-fund waterfall and one deal-by-deal. About 20 attorneys acting for GPs and for LPs built them as a limited partnership agreement template for a traditional private equity buyout fund, to cut the cost and complexity of negotiating each agreement from scratch.

Three documents do three different jobs. The private placement memorandum discloses the fund to prospective investors, the subscription agreement commits an LP to an amount, and the LPA is the contract that governs the partnership once the money is in.

Use the ILPA model as the template to start from: it gives both sides a common baseline for an institutional fund. The signed version is still negotiated for each manager and its investors, and it sits inside a wider set of entities that venture capital fund structures lays out for venture funds.

What do the general partner and the limited partners each carry?

Under a limited partnership agreement, the general partner runs the fund: it picks the investments, calls the capital and answers to the investors for the results. The limited partners fund it and stay out of day-to-day decisions, which is the trade that limits their exposure to the amount they commit.

One lever is the GP's own money. ILPA's Principles, written for private equity funds, say standard practice is for the GP to commit 2-5 percent of the capital of the fund as a whole (ILPA Principles 3.0, page 41). When a private placement agent takes a fund to market, this is a term LPs look at, and a GP committing well under ILPA's range should be ready to explain it.

Investors keep a say through a small committee of LPs, the limited partner advisory committee (LPAC), which the GP consults on specific issues during the fund's life.

The economics a limited partnership agreement sets, and where ILPA pushes

Whether the GP is paid carry before or after the whole fund returns capital is set by one clause of the limited partnership agreement, the distribution waterfall. A whole-of-fund waterfall pays carried interest, the GP's share of the profit, only after LPs have received their contributed capital back across the whole fund, plus the preferred return in ILPA's formulation.

A deal-by-deal waterfall pays carry as each investment is sold. ILPA names the whole-of-fund model as its recommended approach (ILPA Principles 3.0, page 10), and the ILPA model LPA offers both versions.

Where an LPA does use a deal-by-deal model, ILPA asks for three protections: LPs get back all realized cost plus all fees and expenses to date, unrealized investments are carried at the lower of cost or market, and accrued carry sits in escrow with significant reserves, for example 30 percent of carry distributions or more, plus additional reserves for potential clawback liabilities (page 10).

A GP that offers a deal-by-deal waterfall to institutional LPs picks the longer negotiation, because each of those three protections becomes a point to argue.

Each protection ILPA attaches to a deal-by-deal waterfall becomes one more point for LPs to argue.

Fees get their own rules in the agreement. After the investment period, management fees are customarily based on net invested capital, according to Hamilton Lane, so the base is the capital the fund has invested. ILPA asks that no fees be charged to portfolio companies and that any charged be 100% offset against the management fee, with exempt fees rare and defined in the LPA (ILPA Principles 3.0, page 13).

Organization costs, the legal and set-up expenses a fund passes to its LPs, get a cap. ILPA says to size it to the fund, offset any excess against the management fee and, for a successor fund, tie an increase to specific costs such as placement agent expenses. The clause should therefore say which of those costs the fund bears.

3 columns. Drag the table sideways; the first column stays put.

The key person provision

ILPA asks that a key person event, like a for-cause event, suspend a fund's investment period automatically.

The key person provision names the people the LPs are underwriting when they sign the limited partnership agreement, and ILPA says they should be those who determine investment outcomes. It asks that the suspension become permanent within 180 days unless a defined supermajority of LPs reinstates it (ILPA Principles 3.0, page 19). The summary of recommended thresholds on page 23 gives 90 days; page 19 is the full text.

On a key person event, page 19 asks for two things:

• No new investments or other expenditures from fund assets, including recycling and borrowing, unless the LPA expressly permits it.

• An interim clawback test, the check that the GP hasn't taken more carry than it has earned.

In my view a GP will want to keep the key person list short, since every extra name is another trigger that can freeze the investment period.

ILPA also warns against drafting the key person group so widely that the departure of someone the LPs relied on triggers nothing. It asks that any change to the provision need a majority in interest of the LPs.

How LPs can remove the general partner

Removal rights sit on page 20 of ILPA's principles. For cause, ILPA says a majority in interest of LPs, meaning votes weighted by commitment, should be able to suspend or end the commitment period, remove the GP or dissolve the fund. Without fault, the bar is higher at two-thirds in interest (ILPA Principles 3.0, page 20).

After a no-fault removal, ILPA asks that a majority vote in interest be enough to appoint the liquidator. On any removal, it expects a meaningful forfeit of or reduction to carried interest.

Which terms belong in the LPA, and which stay in a side letter?

Terms that most LPs ask for belong in the limited partnership agreement; a side letter, a separate agreement between the GP and one LP, carries the rest: a reporting right, an excuse right, a fee discount.

ILPA agrees: GPs should seek whenever possible to move terms common across the majority of side letters into the LPA, and ILPA says the cost of negotiating side letters should be considered an organizational expense, subject to the agreed cap (ILPA Principles 3.0, page 14). Move them early: each side letter that repeats a common term is another round the fund pays for.

The Fifth Circuit vacated the SEC's Private Fund Adviser Rule in its entirety on 5 June 2024, so the rule's preferential-treatment restrictions and disclosure requirements never took effect (Paul, Weiss). For your drafting, that leaves the LPA, the MFN clause and what LPs ask for as the places where side-letter terms get set.

An investor such as a fund of funds may need terms tied to its own regulatory or investment policy, and those are the terms a side letter exists for. Anything that changes what other LPs pay or receive raises a second decision: whether the most favored nation clause lets them elect it.

How does a most favored nation clause spread one concession?

A most favored nation (MFN) clause lets an LP elect terms the GP granted to another LP. CMS describes the election as typically tiered: an investor can elect another investor's terms only if its commitment is equal to or higher than that investor's (CMS).

“equal to or higher than such other investor's commitment”

CMSSide letters and MFN

CMS gives some common carve-outs from the election as examples, and an LPA may include any of them:

• An investor's own legal, regulatory or tax position, or its investment policies

• First-close status

• A seat on the LPAC

• A first look at co-investments

Managers subject to the AIFMD must also disclose the nature of special arrangements and which types of investor can receive them.

A seat on the LPAC or a first look at co-investments belongs to one investor and is often excluded from the election. A fee discount isn't among those examples, and CMS itself lists fee reductions for larger or first close investors among common side-letter terms. Whether a discount spreads is therefore a drafting choice: unless the LPA carves it out, it spreads up the tiers.

Take a GP that grants an anchor LP with a $75 million commitment a fee discount of 25 basis points, with tiered MFN elections and no carve-out in the LPA. That's $187,500 a year.

A second LP with a $105 million commitment elects the same terms, because its commitment is higher, and the discount costs another $262,500 a year. The total is $450,000 a year, or $4.5 million over ten years if the fee base stays at committed capital.

The $75 million LP can't elect the larger LP's terms, because the tiered election only runs upward. In this limited partnership agreement example only a carve-out in the LPA stops the second LP's election, so price the anchor discount as if every larger LP will elect it.

What the 2026 ILPA reporting template changes for fund terms

ILPA released Reporting Template 2.0 in January 2025. It is intended to replace the 2016 template for funds still in their investment period during Q1 2026 or starting on or after 1 January 2026, and it covers fees, expenses and carried interest (ILPA).

The changes reach the LPA's expense clauses. RSM, an accounting firm, flags a new internal chargeback section for costs GPs charge for internal-team work that the management fee does not otherwise cover, a more granular section for external partnership expenses, and subscription line interest and fees shown apart from bank fees. Funds launched before Q1 2026 and past their investment phase can stay on the 2016 template or opt in.

A GP that expects to charge the fund for internal-team work should say so in the expense clause, because the template will now show those charges on their own line.

3 columns. Drag the table sideways; the first column stays put.

How spectup runs a fund placement around the limited partnership agreement

spectup is engaged and paid by the fund, which is the GP's side only. The fund's counsel forms the vehicle and drafts and negotiates the LPA; spectup comes in once the vehicle exists.

Our work starts from the questions LPs bring to a draft, such as the waterfall, the removal votes and the MFN tiers, and we prepare the GP and its counsel with answers before the first meeting.

We also draft the deck and the private placement memorandum, and the fund's securities counsel reviews its legal and regulatory parts. spectup doesn't negotiate terms; the GP and its counsel do that with the LPs.

The LPA also decides who bears the cost of the placement itself. ILPA ties a successor fund's higher organization-cost cap to specific costs such as placement agent expenses, so the GP's counsel should settle that line before the memorandum goes out.

The memorandum and the limited partner agreement have to tell the same story. ILPA asks for the allocation of broken deal and co-investment expenses to be disclosed consistently across the PPM, the LPA, the marketing materials and any filings. The same match is worth making for fees and every other expense term, because one that differs between the PPM and the LPA is an avoidable question.

The LP list for a fund comes from three sources used together: 440+ investors we know first-hand from closed transactions, 2,500+ investors and LPs we have been in front of together with clients, and 30+ partner firms. spectup's record to date is $760M+ advised, raised or placed.

We take funds of $50M or more, and a fund placement typically runs eight to twelve months.

Which clauses to settle before the first LPs read the draft

Work down these five points with your counsel before the draft goes out, whether the vehicle is a blind-pool fund or a continuation fund buying existing assets:

1. The economics: waterfall type, carry base, portfolio fee offset, organization cost cap and clawback test, each checked against ILPA Principles 3.0.

2. The key person provision and the removal votes: who the key persons are, what a suspension stops, and the thresholds for cause and no fault.

3. The side-letter policy and the MFN tiers: which terms move into the LPA, which stay outside the election, and where the commitment tiers fall.

4. The reporting and expense lines: internal chargebacks, external expenses and subscription line costs, drafted for the 2026 template.

5. The disclosure match: the PPM, the LPA and the deck say the same thing about fees and expenses.

If you're about to take a fund to LPs, mark your draft against the ILPA model limited partnership agreement and settle each point first.