How a venture capital fund works: LPs, GPs, fees and carry

By Abha Lohia · Startup Decoded

A venture capital fund is a pool of money from outside investors, run by a team that invests it in startups for about ten years. The team earns a yearly management fee plus a share of the profit, called carry.

Who are the LPs and the GP?

Two groups make a fund work. Limited partners (LPs) put in the money. They are pension funds, insurers, university endowments, sovereign wealth funds, family offices, development banks and wealthy individuals. The general partner (GP) is the firm that decides where the money goes and runs the fund day to day.

In India, most funds are set up as trusts or companies and registered with SEBI as Alternative Investment Funds, or AIFs. The people at the firm are the fund manager. The fund itself is a separate legal entity that holds the investments. The GP also puts in some of its own money, so it has something to lose. SEBI sets a minimum for this, which depends on the fund category.

How does a fund raise money?

The GP goes to LPs with a plan: the stage, the sectors, the size of the cheques and the team's track record. Interested LPs sign a commitment for an amount. They do not hand over everything at once. Instead the fund sends a drawdown notice whenever it needs cash for a deal or for fees, and LPs have to send their share within a few days.

Money is raised in stages called closes. A first close happens when enough commitments are in, and later closes bring in more. The final size is the fund size, such as a 500 crore fund. A firm raises a new fund every three to four years once the last one is mostly invested, which is why funds have names like Fund I, Fund II and so on.

What is the 2 and 20?

The common pricing is called two and twenty. The management fee is about 2 per cent of committed capital each year. It pays salaries, rent, travel and legal costs. Many funds reduce the percentage in later years, or shift it to a smaller base, once the investment period ends.

Carried interest, or carry, is the GP's share of the profit, typically 20 per cent. It is paid only after LPs get their money back, and usually only after a minimum return called the hurdle, often around 8 per cent a year. Carry is why a VC firm wants a few big wins, not many small ones.

Committed capital is the amount LPs have promised. Paid-in capital is what they have actually sent. Invested capital is what the fund has put into companies. The gap between committed and invested is partly fees and expenses and partly money not yet used. Money promised but not yet invested is often called dry powder.

This matters because a fund's size is not the same as the total it will invest. In the example below, a ₹500 crore fund invests around ₹400 crore. Founders sometimes forget that a fund also needs to keep a reserve for follow-on cheques, so the first cheque is only a fraction of what the fund may eventually put in a winner.

What does the fund's life look like?

A typical fund runs for ten years, sometimes extended by one or two. The first three to five years are the investment period: the team picks companies and makes first cheques. The rest is the harvest period: it backs winners again, which is called follow-on investing, and then sells or lists the stakes.

Most companies do not work out. A fund of 25 to 30 companies may see a handful return the money, and one or two do most of the work. This pattern, where a few outcomes drive the whole result, is called the power law. It is the reason VCs look for companies that could become very large, even if many bets fail.

A seed fund might plan 25 to 40 companies with small first cheques. A Series A fund might plan 12 to 20 companies with bigger first cheques and large reserves. A growth fund might make only eight to ten investments. The plan is called the fund's strategy and is written in the offering document that LPs read before committing.

The partners usually sit on boards of the companies they lead. Each partner can handle only a limited number of boards, which is one reason funds do not invest in everything they like.

Towards year seven to ten, the team focuses on exits. It talks to buyers, helps companies prepare for an IPO and sells stakes to later investors. If a company is not ready, the fund may ask LPs to extend its life, or move the stake into a continuation vehicle, a new fund that buys the old holding and lets some LPs cash out while others stay.

Once every investment is sold, the fund returns the final money and closes. By then the firm is usually raising its next fund, and LPs judge it on how much cash the older funds actually returned.

How are returns measured?

LPs look at a few numbers. The multiple of invested capital (MOIC, or TVPI) says how many rupees came back or are held per rupee put in. The internal rate of return (IRR) adds time to the picture. DPI, or distributions to paid-in capital, counts only cash actually returned. A fund can look good on paper through high valuations, but DPI shows what was really paid out.

Because paper gains can disappear if a company fails or lists poorly, experienced LPs wait for DPI before calling a fund a success. Returns for the same fund can also differ between LPs after fees, which is why headline figures should be read with care.

What are Indian VCs' special constraints?

Indian funds often invest in companies set up abroad, usually in Singapore or the United States, with an Indian operating arm. Rules on foreign investment and overseas investment by Indian funds are set by RBI and SEBI. Many large global funds also have separate India funds and offshore funds.

Taxes matter too. Category I and II AIFs are treated as pass-through vehicles for most income, so tax is paid by investors rather than the fund. This and other rules are covered in the SEBI AIF categories guide.

What does this mean for founders?

A fund has a clock and a size. A 200 crore fund cannot easily put 60 crore into one company, and a ten-year fund wants a way to sell within ten years. A founder who understands this can see why an investor asks about the market size, the path to listing or a sale, and how much of the company they will own after later rounds.

It also explains why funds care about ownership. A VC that puts in a small cheque at seed often wants the right to invest more later, called pro-rata rights, so it keeps its share as the company grows. Nothing here is investment advice.

A last point on trust: LPs back a team, not just a strategy, so a first-time fund manager often has to raise from family offices and angels before large institutions agree to join.

A worked example

Example with made-up numbers. A fund called Example Ventures raises ₹500 crore from LPs. It charges 2 per cent a year on ₹500 crore, which is ₹10 crore a year. Over ten years that is about ₹100 crore in fees, so roughly ₹400 crore is left to invest. Over time the investments return ₹1,500 crore. First, LPs get back their ₹500 crore committed. The remaining profit is ₹1,000 crore. At 20 per cent carry, the GP receives ₹200 crore and LPs keep ₹800 crore of profit. LPs therefore receive ₹1,300 crore in total, about 2.6 times their commitment. Real funds differ: fees often step down, hurdles and catch-up clauses vary, and carry can be calculated deal by deal.

Recent examples on StopDown

Vivriti targets first close of ₹2,500 Cr credit fund 9 October 2026
NABVENTURES marks ₹450 Cr first close of fund 8 October 2026
Recur Club announces ₹500 crore fund for D2C brands 7 October 2026
Navya Naveli Nanda launches Naveli Ventures 6 October 2026
Peak XV names 18 startups for Surge 12 29 September 2026
WEH Ventures reaches first close of ₹250 crore Fund III 29 September 2026

Questions people ask

What is the difference between an LP and a GP?

An LP is an outside investor who supplies money and has no say in individual deals. The GP is the firm that runs the fund, picks the startups and earns fees plus carry. The GP also invests some of its own money.

What does 2 and 20 mean in venture capital?

It means a management fee of about 2 per cent of the fund each year, and carry of about 20 per cent of the profit. Exact terms vary: some funds charge less, step down the fee over time, or add a hurdle return before carry is paid.

How long does a VC fund last?

Usually ten years, with possible extensions of one or two years. The first few years are for making investments, and the later years are for follow-ons and exits.

What is a drawdown?

A drawdown is a request by the fund for LPs to send part of their committed money. Funds draw cash when they need it for a deal or fees, so LPs do not hand over the full commitment on day one.

Why do most VC-backed startups fail yet funds make money?

Because a few big winners can return many times the fund, covering the losses on the rest. This is called the power law. It is also why VCs push portfolio companies to aim big.

Is a VC fund the same as an AIF?

In India a VC fund is a type of AIF, registered with SEBI, usually in Category I. AIF is the legal wrapper; venture capital is the strategy inside it.