We are often asked what side letters are, why they exist and how fund managers should think about them when raising a private equity or venture capital fund. The question sounds simple, but side letters sit at the intersection of fundraising leverage, investor regulation, tax sensitivity, operational administration, most favored nation rights, conflicts, reporting expectations and the basic fairness bargain among limited partners.
At the most basic level, a side letter is a separate written agreement between a fund manager or fund, on the one hand, and a particular limited partner, on the other hand, that supplements, clarifies, modifies or adds to the terms of the fund’s main governing documents as they apply to that one limited partner. The main governing document, to which all investors are bound, is usually a limited partnership agreement or limited liability company agreement. The side letter is “side” documentation because it sits alongside that main agreement.
Side letters are common in private equity and venture capital funds. They are not, in and of themselves, unusual or problematic. In many institutional funds, side letters are part of the ordinary closing process. They allow a manager to admit investors with different legal, tax, regulatory, fiduciary, political, reporting and internal policy needs without rewriting the entire limited partnership agreement for everyone.
That said, side letters can create complexity. A fund agreement is designed to set the common bargain for all investors. A side letter creates a special bargain for one investor. That special bargain may be entirely appropriate. It may be necessary to allow the investor to invest at all. It may be narrow, technical and harmless to the rest of the fund. But it can also create real economic, operational or legal consequences. A side letter can change, among other coverage areas, who receives information, who sits on the advisory committee, who receives co-investment opportunities, who may avoid certain investments, who gets special tax reporting, who has notice rights, who has enhanced transfer rights and who can pick up provisions granted to other investors through a most favored nation process.
For that reason, side letters are not merely fundraising documents. They are fund administration documents. They are compliance documents. They are operational documents. They are often reviewed repeatedly over the life of a fund, long after the fundraising process is over. A side letter that seems minor during a closing can become very important years later when the fund is making a sensitive investment, distributing public securities, engaging in a continuation fund transaction, dealing with sanctions, navigating a tax audit, preparing investor reporting or addressing a transfer request.
With that in mind, the goal of this primer is to explain how side letters work at a high level, what fund agreements often say about them, what most favored nation rights are and how they operate, and what types of provisions are commonly negotiated by institutional investors in private equity and venture capital funds.
Why side letters exist
Side letters exist because investors are not all the same.
A private equity fund may have public pension plans, sovereign wealth funds, insurance companies, banks, funds of funds, ERISA plans, endowments, foundations, family offices, taxable individuals, corporate strategic investors, non-US investors, government-related entities and feeder funds in the same investor base. A venture capital fund may have a similar mix, plus investors with particular sensitivity around CFIUS, China, sanctions, digital assets, in-kind distributions, portfolio company confidentiality, public disclosure statutes or co-investment allocations.
Those investors may all be willing to invest in the same fund on the same core economic terms. They may accept the same management fee, carried interest, investment period, fund term, waterfall, clawback and governance structure. But they may not be able to accept exactly the same collateral provisions.
For example, a sovereign wealth fund may need language preserving sovereign immunity and limiting the kinds of documents it must sign for a credit facility. A public pension plan may need pay-to-play representations, political contribution confirmations, disclosure accommodations, or confirmation that certain gifts and entertainment practices are consistent with its ethics rules. A tax-exempt US investor may need UBTI reporting or comfort around unrelated business taxable income. A non-US investor may need ECI, FIRPTA, Section 892 or withholding tax accommodations. A bank may need Bank Holding Company Act language. A foundation may need private foundation protections or restricted investment language. A fund of funds may need the right to share fund information with its underlying investors. A large investor may ask for an advisory committee seat. A foreign investor may need CFIUS-related information limitations so its participation in the fund does not create avoidable regulatory issues for the fund or its portfolio companies.
Without side letters, the manager would have two bad choices. It could put all of these special provisions in the main fund agreement, making the agreement longer, more complicated and full of investor-specific provisions irrelevant to most limited partners. Or it could refuse to accommodate legitimate investor needs, potentially losing important capital. Side letters solve this by allowing investor-specific tailoring while preserving a common fund agreement.
What side letters should not be
Side letters should not be used casually to rewrite the basic economics or governance of the fund in ways that undermine the common bargain.
That does not mean side letters can never address economic matters. They sometimes do. A large anchor investor may negotiate a reduced management fee. A strategic investor may negotiate a co-investment framework. An investor may receive a commitment right in the next successor fund. A placement fee provision may provide that a particular investor will not bear placement agent expenses associated with its own commitment. A co-investment side letter may state that direct co-investments will not bear management fee or carry. These are all economic in some sense.
But the more a side letter affects core economics, investment discretion, liquidity, transparency or governance, the more carefully the manager should consider whether the provision is appropriate, whether it must be disclosed, whether it triggers most favored nation rights, whether it disadvantages other investors and whether it should instead be addressed in the main fund agreement.
The most dangerous side letters are often not the ones with technical tax or regulatory accommodations. They are the ones that create hidden economic preferences, undisclosed liquidity advantages, special information flows, side arrangements affecting allocations or rights that cannot be administered consistently across the investor base. These are the provisions that can create fairness issues, regulatory risk and investor relations problems.
The LPA’s role in authorizing side letters
Most sophisticated fund agreements expressly contemplate side letters. This is important.
The fund agreement may state that the general partner is authorized to enter into side letters or similar agreements with one or more limited partners. It may further state that side letters may contain rights, preferences or privileges that are not granted to other limited partners. It may clarify that those rights will be binding on the fund and the general partner, even if they are inconsistent with the general provisions of the fund agreement as applied to the side letter recipient.
That authorization matters because the limited partnership agreement (LPA) otherwise represents the main agreement among the partners. If the manager is going to grant investor-specific rights, it should have authority to do so. Investors also want to know, when they subscribe, whether other investors may have rights outside the four corners of the LPA.
A fund agreement may take different approaches to authorizing side letters.
One approach is broad authorization. The LPA may simply permit the general partner to enter into side letters or similar agreements with any limited partner and may provide that those agreements can grant rights, benefits or accommodations that are not granted to other limited partners. This gives the manager maximum flexibility. It is often useful in a fund with a diverse investor base, where different limited partners may have different tax, regulatory, reporting or internal policy needs. But it also places more weight on disclosure, administration and fairness principles because investors will want to understand whether other investors are receiving rights that matter to the common bargain.
A second approach is authorization with limits. The LPA may permit side letters but only so long as they do not materially and adversely affect other limited partners, do not alter the fund’s basic economic terms, do not require the fund to act inconsistently with the LPA, and do not impose additional obligations on other limited partners. This approach still allows investor-specific accommodations, but it draws a boundary around the kinds of provisions that can be granted outside the main fund agreement. In practice, this is often where the hardest drafting questions arise. A provision giving one investor special tax reporting may be easy to characterize as investor-specific. A provision excusing one investor from an entire category of investments, giving one investor enhanced liquidity or changing how expenses are borne may require more careful analysis.
Separate from either of these approaches, the fund documents or individual side letters may include a “most favored nation” provision, often called an MFN. An MFN is not itself authorization to enter into side letters. It is an additional mechanism that may apply once side letters have been granted. At a high level, an MFN gives an investor the right, subject to the terms and limits of the MFN, to elect the benefit of certain more favorable side letter provisions granted to other investors. For example, an investor with a $50 million commitment may be permitted to elect provisions granted to investors with commitments of $50 million or less while being unable to elect provisions granted only to larger investors. MFNs are common in institutional funds because they allow the manager to accommodate particular investor needs while giving similarly situated investors a measure of protection against undisclosed preferential treatment.
MFNs, however, are almost always limited. Advisory committee seats, commitment-based fee arrangements, co-investment understandings, investor-specific transfer rights, public disclosure accommodations, sovereign immunity provisions and other rights tied to a particular investor’s status or contribution to the fund may be excluded or made available only to investors that are similarly situated. A well-drafted MFN will specify who is eligible, which provisions are excluded, whether related investors may aggregate commitments, whether the electing investor must assume associated obligations, and how and when elections must be made.
The important distinction is this: The LPA’s side letter authorization answers the question, “May the manager enter into side letters and with what limits?” The MFN answers a different question: “If the manager grants side letter rights to one investor, do other investors have a right to elect some or all of those rights?” Those concepts are related, but they are not substitutes for each other.
Another approach is to incorporate certain side letter accommodations directly into the LPA. For example, the LPA may itself permit the general partner to accommodate investors who do not want to receive in-kind securities or who need to be excluded from an investment for legal, regulatory, tax or internal policy reasons. In that case, the side letter may identify the investor’s particular restriction while the LPA supplies the mechanics. This can be a very useful structure because it avoids reinventing operational mechanics in dozens of separate side letters.
The key point is that the fund agreement should anticipate side letters. It should say that they are permitted. It should say how they interact with the LPA. It should preserve the manager’s ability to administer the fund. And it should avoid creating a world in which one investor’s side letter right accidentally changes the rights or obligations of everyone else.
“Prevails over the LPA” language
Side letters often provide that, as between the investor and the fund or general partner, the side letter controls in the event of a conflict with the LPA. That is a natural provision. Without it, the investor may worry that the side letter is merely precatory or that the LPA’s integration clause overrides it.
Managers should be careful with this language. A side letter can appropriately control as between the parties to that side letter. But it should not be drafted so broadly that it changes the rights of other investors or alters fund-level mechanics in a way the manager cannot administer. For example, a side letter may say that a particular investor will receive additional tax reporting. That is manageable. A side letter should be much more carefully considered if it purports to change the fund’s investment limitations, modify the waterfall, change the allocation of expenses among all partners or require the fund to avoid an entire category of investments for everyone. Those types of provisions are usually not acceptable for side letters, either by reason of contract, fiduciary duty or both.
A useful way to think about this is to distinguish between investor-specific accommodations and fund-wide restrictions. Investor-specific accommodations usually belong in side letters. Fund-wide restrictions usually belong in the LPA.
Most favored nation rights
An MFN is one of the most important side letter provisions.
At a high level, an MFN gives an investor the right to elect the benefit of certain more favorable provisions granted to other investors in their side letters. It is a mechanism for policing relative fairness. If Investor A negotiates a provision that is more favorable than Investor B’s rights, and Investor B has an MFN, Investor B may be able to elect that provision.
MFNs vary widely. They are not all the same.
The first issue is who gets the MFN. Some funds give MFNs to all investors. More often, MFN rights are granted only to investors above a specified commitment threshold or are tiered by commitment size. A $100 million investor may receive the right to elect provisions granted to any other investor with an equal or smaller commitment. A $25 million investor may receive the right to elect provisions granted to investors at or below $25 million but not provisions granted to larger investors. A small investor may receive no MFN at all.
The second issue is whether commitments are aggregated. Many institutional investors invest through multiple related entities. A fund-of-funds manager may have several client vehicles. A university may invest through multiple related entities. A pension system may invest through different accounts. A side letter may provide that related commitments are aggregated for purposes of MFN thresholds, advisory committee rights, co-investment rights or other provisions. Aggregation can be very important because it determines whether the investor is treated as a $5 million investor, a $25 million investor or a $100 million investor for side letter purposes.
The third issue is what provisions are electable. An MFN rarely means that every provision granted to every other investor is automatically available. There are usually exclusions. Advisory committee seats may be excluded because the fund cannot have unlimited LPAC (limited partner advisory committee) members. Co-investment rights may be excluded or limited because allocation depends on investment opportunity size, investor capability, regulatory fit and relationship factors. Fee discounts may be excluded if they were granted in exchange for a larger commitment or anchor support. Transfer rights may be excluded if they relate to a specific disclosed affiliate. Confidentiality and disclosure rights may be limited to investors with similar legal or regulatory needs. Sovereign immunity provisions are usually available only to sovereign or governmental investors. Public records accommodations are usually available only to investors actually subject to those laws.
The fourth issue is process. At the end of fundraising, the manager or counsel typically prepares an MFN disclosure package or election form. This may list side letter provisions granted to other investors, organized by provision heading and commitment threshold. Investors with MFN rights are given a period of time, often 30 days, to elect applicable provisions. Some provisions may be automatically incorporated. Others require the investor to initial or affirmatively elect them. Some may be designated as generally excluded unless the investor establishes the same special status as the original recipient.
The fifth issue is whether the electing investor must assume burdens as well as benefits. A well-drafted MFN should generally require an investor electing a provision to accept associated obligations. If a provision gives an investor special information rights only because the investor agrees to maintain enhanced confidentiality or bear additional costs, the electing investor should not be able to take the benefit without the burden.
MFNs can be administratively burdensome. They require careful tracking. A manager needs to know which investor has which side letter rights, which provisions were elected through MFN, which provisions were nonelectable and which obligations apply to each investor. In a large fund with many institutional investors, the side letter matrix can become a core fund administration document.
The regulatory backdrop
Side letters have received increased regulatory and market attention in recent years.
The SEC’s 2023 private fund adviser rules would have imposed significant new restrictions and disclosure obligations around preferential treatment, including side letter arrangements. Those rules were vacated by the US Court of Appeals for the Fifth Circuit in 2024 and are not in effect. That is important. The private fund market is not currently operating under those vacated preferential treatment rules.
But the broader point remains: Side letters are not invisible. The SEC and other regulators have long focused on undisclosed preferential treatment, conflicts, fees and expenses, investor reporting, valuation, allocation practices, and misleading disclosure. Even without the vacated rules, registered investment advisers remain subject to fiduciary duties, anti-fraud rules and disclosure obligations. Exempt reporting advisers also remain subject to anti-fraud principles. Investor expectations have also changed. Large institutional investors, consultants, auditors and internal compliance teams are more focused on side letter terms than they were a decade ago.
The result is a somewhat subtle current market point. The legal rule may be less prescriptive than it briefly appeared it might become under the SEC’s vacated rules, but the market expectation for discipline around side letters has increased. Managers should assume that side letter provisions may be reviewed by investors, regulators, auditors, lenders, fund administrators, secondary buyers and successor fund diligence teams. They should be drafted and administered accordingly.
Side letters in venture capital versus private equity
The same basic side letter concepts apply in private equity and venture capital, but market emphasis can differ.
In venture capital funds, side letters often focus heavily on tax reporting, confidentiality, public disclosure, advisory committee seats, co-investment interest, in-kind distribution mechanics, CFIUS sensitivity, sanctions, China-related matters, digital assets, restricted investments and information-sharing with underlying investors. Venture funds often hold minority positions in private companies, may distribute public securities after IPOs, may have many portfolio companies and may have global investor bases. These features drive many of the side letter requests.
In private equity funds, side letters often include many of the same categories, but there may be additional emphasis on fee and expense reporting, portfolio company fees, co-investment rights, LPAC governance, continuation fund conflicts, excuse rights, ESG reporting, subscription credit facilities, ERISA and plan asset issues, insurance, use of operating partners, and reporting around controlled portfolio companies. Buyout and growth equity funds may have fewer portfolio companies but greater control and more complex portfolio company fee, financing, governance and exit issues.
Neither market is simple. A venture fund with global investments, sovereign investors and digital asset exposure can have side letter issues as complex as a buyout fund. A private equity fund with a concentrated domestic investor base may have a relatively straightforward side letter process. The right approach depends less on whether the fund is “VC” or “PE” and more on the strategy, investor base, regulatory profile, fund size and willingness of the manager to create investor-specific obligations.
Categories of side letter provisions
Side letter provisions can be grouped into broad categories. The categories overlap, and a single provision may fit in more than one category. Still, categorizing them helps managers understand what investors are asking for and why.
1. MFN, aggregation and side letter administration
The first category consists of provisions governing the side letter process itself.
These include MFN rights, aggregation provisions, side letter applicability provisions, assignment provisions, amendments to side letters, confidentiality of side letters, and provisions stating whether the side letter applies to parallel funds, alternative vehicles, feeder funds, co-investment vehicles or successor structures.
Aggregation provisions are particularly common where a single institutional relationship invests through multiple entities. The investor may want all related commitments treated as a single commitment for purposes of MFN thresholds, advisory committee rights, co-investment interest or other benefits. Managers often agree where the relationship is genuinely integrated but should be careful to define the covered entities clearly.
Applicability provisions are also important. If an investor invests through a parallel fund or alternative investment vehicle instead of the main fund, it will usually want its side letter rights to apply mutatis mutandis to that vehicle. That is generally sensible, but the phrase “to the extent applicable” does real work. Not every right translates cleanly from a main fund to an alternative vehicle, particularly if the vehicle exists for tax, regulatory or structural reasons.
Assignment provisions address whether a side letter follows the investor’s interest upon transfer. Many side letters provide that the letter is not assignable without consent but will bind and benefit an affiliate transferee if the transfer is permitted under the LPA. This is usually reasonable, particularly for institutional investors that may reorganize holdings internally. Managers should avoid allowing side letter rights to travel freely to unrelated third-party buyers without review.
Side letter confidentiality provisions address who may see the side letter. This is a sensitive issue because MFN processes often require disclosure of side letter provisions to other investors, but investors may want their name, commitment amount or investor-specific details redacted. A practical compromise is to allow disclosure of the substantive provisions in an MFN package while redacting identifying information where appropriate.
2. Advisory committee rights and governance participation
The second category consists of LPAC and governance rights.
Large or strategic investors often ask for a seat on the advisory committee. Others may ask for observer rights. Some investors may ask for a list of LPAC members, copies of LPAC materials, reimbursement of LPAC expenses or notice of LPAC actions.
Advisory committee rights are often among the most sensitive MFN exclusions. A fund cannot give every MFN investor an LPAC seat. The LPAC must remain a workable body. Managers often reserve LPAC seats for large investors, anchor investors, investors with particular expertise or representative members of the investor base. Observer rights may be somewhat easier to grant, but even observers can create confidentiality, CFIUS, conflicts and administrative issues.
A well-drafted LPAC side letter provision should address who may serve, whether the representative must be a senior investment professional, whether the general partner has approval rights over replacements, whether the investor must remain non-defaulting, whether materials are confidential, whether the manager may exclude a member or observer from particular discussions, and whether expenses are reimbursed.
The exclusion right can be important. LPAC materials may include information that cannot be shared with a particular investor because of confidentiality obligations, conflicts, CFIUS concerns, material nonpublic information, portfolio company restrictions or competitive sensitivity. Managers should preserve the ability to withhold information where necessary while using that right carefully and not as a way to avoid appropriate governance.
3. Information, reporting, and books and records
The third category consists of information rights.
These provisions may require enhanced capital call notices, distribution notices, quarterly reports, annual reports, expense reports, tax estimates, capital account detail, fee and expense detail, portfolio company summaries, audit certifications, litigation notices, regulatory notices, cybersecurity notices, default notices, LPAC action summaries, or information needed for an investor’s internal reporting templates.
Information rights are among the most common side letter requests. Many institutional investors have internal systems requiring standardized data. Funds of funds may need information to report to their own investors. Public pensions may need information for board reporting. Endowments and foundations may need information for audit and valuation processes. Insurance companies and banks may need information for regulatory capital, accounting or risk reporting.
Managers should distinguish between ordinary fund-level reporting and bespoke reporting. It is usually easier to agree that an investor will receive the same regular reports provided to other limited partners or that capital call notices will include a general use-of-proceeds description. It is more burdensome to agree to bespoke templates, special certifications, investor-specific calculations or reporting within shorter time frames.
The manager should also preserve confidentiality carve outs. The fund may not always be able to provide portfolio company information, especially where doing so would violate confidentiality agreements, securities laws, CFIUS-related restrictions, material nonpublic information controls or portfolio company expectations. A side letter should not require the manager to disclose information it is legally or contractually prohibited from disclosing.
4. Confidentiality, FOIA and permitted disclosure
The fourth category consists of confidentiality and permitted disclosure provisions.
The LPA usually contains a confidentiality provision limiting what investors may do with fund information. Side letters often modify that provision for particular investors. The modifications can be narrow or broad.
A fund of funds may need to disclose fund information to its underlying investors. A sovereign entity may need to share information with governmental officials, auditors, ministries, legislative bodies or oversight committees. A public pension may be subject to public records laws. A regulated European fund may need to provide information to depositaries, administrators, auditors or regulators. A family office vehicle may need to share information with family members, trusts, advisors or affiliated investment entities. A university or foundation may need to share information with investment committees, trustees or consultants.
These requests are often legitimate. But they create real risk for the fund. Fund information may include confidential portfolio company information, private valuations, sensitive strategy, personal data, material nonpublic information, trade secrets and information subject to confidentiality agreements. If the investor is subject to public disclosure laws, the risk is not theoretical.
Good confidentiality side letters typically define permitted recipients, require those recipients to be informed of confidentiality obligations, require the investor to remain responsible for breaches, limit disclosure to need-to-know purposes, allow only fund-level information to be publicly disclosed and preserve the manager’s right to withhold particularly sensitive information. Public records accommodations often distinguish between fund-level information and portfolio company-level information. The former may include the name of the fund, commitment amount, contributions, distributions, NAV and IRR. The latter is usually far more sensitive.
Managers should resist broad formulations that allow unrestricted disclosure to all affiliates, all beneficial owners, all public authorities or all prospective investors. The better approach is to identify the categories of recipients and the categories of information with precision.
5. Tax reporting and protection
The fifth category consists of tax provisions, one of the largest side letter categories in practice.
Tax provisions may address UBTI, ECI, FIRPTA, PFICs, CFCs, Section 892, partnership audit rules, withholding, FATCA, CRS, AEOI, reportable transactions, listed transactions, foreign tax filings, tax refunds, tax estimates, tax assistance, tax withholding notices, foreign tax reporting forms and investor-specific filings in jurisdictions such as Germany, Australia, Canada, Luxembourg, Hong Kong, Singapore or the Cayman Islands.
The purpose of these provisions is usually not to give one investor a better economic bargain. It is to help that investor comply with its own tax regime or avoid a tax consequence that is inappropriate for its status. For example, a US tax-exempt investor may want UBTI reporting. A non-US investor may want comfort that the fund will use commercially reasonable efforts to avoid ECI. A sovereign investor may request Section 892 protections. A fund of funds may need CFC or PFIC information for its underlying US taxable investors. A German investor may need assistance with German tax filings. An Australian superannuation fund may need Australian tax reporting. A tax-exempt investor may want advance notice before withholding is treated as a loan or distribution.
Managers should be careful not to overpromise. A venture or private equity fund may not control portfolio companies. It may not be able to obtain PFIC or CFC information. It may not be able to prevent all withholding. It may not be able to avoid all foreign tax filings. It may not know in advance whether a portfolio company’s tax status will change. It may have obligations to other investors that limit what it can do for one investor.
For that reason, many tax side letter provisions use standards such as “commercially reasonable efforts,” “to the extent in the General Partner’s possession,” “to the extent reasonably available,” “upon request and at the investor’s expense,” and “subject to the General Partner’s obligations to the Partnership and the other Partners.” These qualifiers are not mere drafting hedges. They reflect operational reality.
Partnership audit provisions are also common. Investors may want assurance that partnership-level assessments will be handled so the investor bears only amounts attributable to its status or identity and not taxes attributable to other partners. Tax-exempt and non-US investors may also want the manager to avoid creating filing obligations where possible. These provisions can be complex and should be coordinated with the LPA’s partnership representative provisions.
6. Legal, regulatory, AML, sanctions and anti-corruption provisions
The sixth category consists of legal and regulatory compliance provisions.
These provisions often include anti-money laundering, sanctions, anti-corruption, FCPA, anti-terrorism, anti-bribery, anti-social forces, pay-to-play, political contribution, placement agent, regulatory compliance, litigation and representation provisions.
Public pensions often request pay-to-play and placement agent provisions. Sovereign investors often request sanctions, anti-corruption and regulatory compliance provisions. Japanese investors may request anti-social forces language. European institutional investors may request AML, sanctions and ESG-related confirmations. Large US institutional investors may request litigation representations, regulatory investigation notices or confirmation that the manager has not engaged in disqualifying conduct.
These provisions have become more important as sanctions and national security regimes have become more complex. Side letters for Asia-focused funds, China-related strategies, technology funds, digital asset funds and funds with sovereign investors may include detailed sanctions language addressing OFAC, Chinese military-industrial company restrictions, Hong Kong-related sanctions or other country-specific issues. Current geopolitical conditions make these provisions more than boilerplate.
Managers should again be careful about scope. A representation that the fund will comply with applicable law is different from a covenant that no portfolio company will ever become subject to sanctions. A manager may be able to represent as to its own knowledge after reasonable inquiry. It may not be able to guarantee facts about every portfolio company, founder, customer or supply chain. The drafting should distinguish between the manager, the fund, controlled vehicles, portfolio companies, affiliates, employees, principals and other investors.
7. CFIUS, outbound investment and national security sensitivities
The seventh category consists of national security and foreign investment provisions.
CFIUS-related side letter provisions often seek to ensure that a foreign investor’s participation in a fund does not give that investor rights that could create a covered investment or increase regulatory sensitivity. These provisions may limit the investor’s access to material nonpublic technical information, board or observer rights at portfolio companies, and involvement in substantive decision-making regarding critical technologies, critical infrastructure or sensitive personal data.
These provisions can be important in both venture capital and private equity. Venture funds often invest in emerging technology companies, including artificial intelligence, semiconductors, cybersecurity, defense-adjacent technologies, biotechnology, data infrastructure and other areas that may raise national security issues. Private equity funds may acquire or control businesses that hold sensitive data, operate critical infrastructure, supply government customers or develop controlled technologies.
The US outbound investment regime adds another layer for funds making investments involving China, Hong Kong or Macau in certain sensitive technology sectors. That regime is not exactly a side letter regime, but it affects side letter practice. If the fund makes investments that trigger national security restrictions or internal policy concerns, investors may ask for notices, representations, investment exclusions, information rights or transfer accommodations.
The fund agreement and side letters should be coordinated. If the LPA already states that limited partners will not receive rights causing the fund to become problematic under CFIUS, the side letter may simply acknowledge or tailor that framework. If a particular investor needs additional limitations, the side letter should specify them. Managers should avoid promising to share detailed technical information with one investor while simultaneously trying to preserve a passive fund exception or avoid sensitive information rights for another.
8. ESG, responsible investment and restricted investment provisions
The eighth category consists of ESG, responsible investment, prohibited investment and restricted business provisions.
These provisions vary significantly by investor. Some are high-level acknowledgements that the manager has adopted an ESG policy or will consider ESG factors as part of its investment process. Others are more specific, addressing prohibited investments in weapons, tobacco, cannabis, gambling, pornography, child labor, forced labor, thermal coal, controversial weapons, private prisons, predatory lending, animal testing, abortion-related businesses, or companies inconsistent with religious or mission-based guidelines.
Foundations, religiously affiliated investors, public pensions, sovereign wealth funds, European investors, Australian superannuation funds and development finance institutions are among the investors most likely to request these provisions. Some requests are driven by law. Others are driven by internal policy, mission alignment or public accountability.
The most important drafting question is whether the provision is a fund-wide restriction or an investor-specific accommodation.
A fund-wide restriction says the fund will not make certain investments. That belongs in the LPA if it is material to the strategy or applies to all investors. A side letter is not usually the right place to quietly change the fund’s investment mandate for everyone.
An investor-specific accommodation says that if the fund makes an investment that violates the investor’s policy, the investor may be excused from that investment, transferred out, receive notice or receive cash rather than in-kind securities. This can be appropriate, particularly if the LPA contains mechanics for excusing investors from specified investments. But it requires careful administration. The manager must know when the restriction is triggered, how capital calls are adjusted, how income and losses are allocated, how expenses are borne, and whether the excluded investor remains responsible for management fees and other fund expenses.
In practice, many managers prefer to avoid hard investor-specific investment exclusions unless the investor has a genuine legal, regulatory, tax or written internal policy need. A broad side letter right allowing an investor to opt out of investments it dislikes can undermine the blind pool nature of the fund.
9. Co-investment and secondary opportunity provisions
The ninth category consists of co-investment and secondary opportunity provisions.
Many investors ask to be considered for co-investment opportunities. Most managers are willing to acknowledge investor interest. That kind of provision is usually soft. It says the manager will consider the investor in good faith for available co-investments but does not guarantee allocation.
Harder co-investment rights are more sensitive. A right to participate pro rata in all co-investments, a right of first offer, a guaranteed allocation or a no-fee/no-carry co-investment commitment can materially affect the manager’s flexibility. Co-investment opportunities are often limited. They may be needed for strategic investors, investors with relevant sector expertise, investors who can move quickly, investors who can write large checks or investors who are not subject to regulatory restrictions. A manager may also need to allocate co-investments across multiple funds, parallel vehicles, separately managed accounts and strategic relationships.
Private equity funds may face more regular co-investment allocation questions because buyout and growth equity deals often require larger equity checks. Venture funds may offer co-investments less frequently but may do so for late-stage rounds, special purpose vehicles, opportunity vehicles, overflow allocations or strategic syndication.
Side letters may also address secondary opportunities. An investor may ask to be notified if another limited partner wants to sell its interest. This usually does not create a right of first refusal; it merely allows the investor to contact the selling LP. Managers should be careful about confidentiality, transfer restrictions, secondary process management and fairness to other potential buyers.
10. In-kind distributions and public securities
The 10th category consists of in-kind distribution provisions.
These provisions are especially important in venture capital, growth equity and technology-focused funds, where exits may produce public securities. They also matter in private equity funds that distribute public stock after IPOs, spinouts or public company sales.
Some investors do not want to receive securities in kind. They may lack custody arrangements. They may be prohibited from holding certain securities. They may face regulatory limitations on ownership. They may be unable to trade particular securities. They may be sensitive to insider status, material nonpublic information, sanctions, sector restrictions or public company reporting obligations.
A side letter may allow the investor to elect to have securities treated as “managed securities,” meaning the manager or an agent will sell the securities on the investor’s behalf and distribute cash proceeds. It may allow the investor to designate a brokerage account. It may allow the investor to decline digital assets. It may require advance notice of in-kind distributions. It may provide that the manager will use commercially reasonable efforts to vary the method of distribution to avoid a legal or regulatory problem.
These provisions must be drafted carefully. The manager should not guarantee any particular sale price or timing. Securities may be illiquid, subject to lockup, subject to volume limitations, subject to trading windows or otherwise difficult to sell. The investor should generally indemnify the fund and manager for carrying out investor-specific instructions, except for bad acts. Tax treatment should also be addressed because an investor may be treated as receiving securities even if the manager sells those securities as agent and remits cash.
In-kind distribution accommodations are a good example of where LPA-level authorization can help. If the LPA gives the general partner authority to allow some investors to receive cash while others receive securities, side letters can identify which investors have elected that treatment without needing to recreate the full mechanics each time.
11. Transfer, assignment and reorganization rights
The 11th category consists of transfer rights.
The LPA will usually restrict transfers of limited partnership interests. The manager must protect the fund from securities law issues, tax issues, Investment Company Act issues, ERISA issues, public trading concerns, regulatory issues, sanctions concerns and administrative burdens. Transfers, therefore, typically require general partner consent.
Side letters often soften that standard for transfers to affiliates, successor entities, related governmental agencies, managed accounts, feeder vehicles or entities under common control. This is particularly common for large institutions that may reorganize holdings, change trustees, move assets between accounts or invest through multiple vehicles.
Some investors also ask for transfer accommodations if a restricted investment, sanctions event, digital asset investment, commodity interest issue, ERISA issue, regulatory problem or tax problem arises. The side letter may state that the manager will not unreasonably withhold consent to a transfer if the investor can no longer hold the fund interest because of the relevant issue.
Managers should not give away transfer control too broadly. An affiliate transfer may be acceptable if the transferee is creditworthy, makes required representations, assumes all obligations, satisfies KYC requirements and does not create adverse consequences for the fund. A transfer to an unrelated third party is a different matter. It can affect the investor base, confidentiality, compliance, lender relationships and future fundraising.
Side letters may also address whether the side letter itself transfers with the interest. Often the answer is yes for permitted affiliate transfers and no for unrelated transfers unless the general partner agrees.
12. Subscription facility, borrowing and credit support provisions
The 12th category consists of borrowing and subscription facility provisions.
Subscription credit facilities are common in private equity and venture capital funds. They often require lenders to have rights against uncalled capital commitments, capital call proceeds, and sometimes investor-specific acknowledgements or delivery requirements. Certain investors may have limitations on what they can sign or what obligations they can assume. Sovereign investors, public pensions, banks, insurance companies, ERISA plans and governmental entities may have particular constraints.
Side letters may provide that an investor will not be required to provide a guarantee, pledge its interest, waive sovereign immunity, deliver financial statements, sign lender letters beyond specified documents or be liable beyond its capital commitment. Other provisions may confirm that capital contributions made directly to a lender count as capital contributions to the fund. Some provisions require advance notice of borrowing or limit the investor’s exposure to amounts not exceeding its commitment.
These provisions matter because subscription facilities are operationally central to many funds. A side letter that seems like a narrow investor accommodation can create lender diligence issues. Lenders often review side letters to identify investor exclusions, sovereign immunity limitations, excuse rights, transfer rights, confidentiality restrictions and limitations on capital call enforceability.
Managers should coordinate side letter borrowing provisions with fund finance counsel. The worst time to discover a problematic side letter is during a facility closing.
13. Placement agent, political contribution and public pension provisions
The 13th category consists of placement agent, political contribution and public pension provisions.
Public pension investors often require representations that no placement agent was used in connection with their investment or that any placement agent arrangements complied with applicable law and investor policy. They may require disclosure of placement fees, confirmation that the investor will not bear placement agent expenses or representations regarding political contributions.
These requests reflect the regulatory history around pay-to-play practices and placement agent scandals. Investment advisers are subject to SEC pay-to-play rules, and many public investors have their own rules. Even technical violations can create serious consequences for managers.
Managers should have strong internal controls around political contributions, placement agents and government investors. The side letter provision is only one piece of the compliance system. Before agreeing to a representation, the manager should confirm that it is true not only for the fund but also for the relevant covered associates, affiliates, placement agents and fundraising personnel.
14. Representations, litigation and status confirmations
The 14th category consists of representations and status confirmations.
Investors may ask the general partner to represent that the fund and general partner are duly formed, validly existing and authorized to enter into the fund documents. They may ask for confirmation that the LPA is enforceable. They may ask for litigation representations. They may ask whether the manager, principals or prior funds have been subject to fraud claims, regulatory sanctions, bankruptcy, criminal proceedings or material litigation. They may ask for confirmation of investment adviser status, exempt reporting adviser status, years of experience, assets under management, insurance coverage, cybersecurity safeguards, ESG policies or AML policies.
These provisions can be reasonable when they support an investor’s diligence or internal approval process. But managers should resist overly broad representations that extend beyond knowledge, cover remote affiliates, cover all portfolio companies or speak to matters that cannot be verified.
A common formulation is to make representations “to the knowledge of the General Partner” or “to the General Partner’s knowledge after reasonable inquiry.” That standard is often appropriate where the representation concerns litigation, investigations, sanctions, portfolio companies, affiliates or prior funds. For entity existence and authority, an unqualified representation may be more appropriate.
15. Power of attorney and document execution provisions
The 15th category consists of power of attorney and document execution provisions.
Fund agreements usually grant the general partner a power of attorney to sign certain documents on behalf of limited partners. This is necessary for fund administration. The general partner may need to file certificates, amend schedules, implement transfers, admit substitute partners, sign tax documents or take other actions contemplated by the LPA.
Some investors, particularly governmental entities, sovereign investors and regulated institutions, are uncomfortable with broad powers of attorney. They may request language clarifying that the power is ministerial, cannot be used to materially change economics, cannot be used to amend the LPA beyond authorized amendments and cannot be exercised in violation of law or investor policy.
These provisions are often manageable if they clarify rather than undermine the LPA. The manager needs enough authority to run the fund. The investor wants assurance that the power of attorney is not a blank check. A clear statement of ministerial scope can help both sides.
16. Alternative vehicles, parallel funds and structural accommodations
The 16th category consists of alternative vehicle and parallel fund provisions.
Funds often use alternative investment vehicles, blocker corporations, parallel funds, feeder funds, side-by-side funds or other special vehicles to address tax, regulatory, legal or investment structuring needs. Investors may request rights relating to these vehicles. They may want copies of governing documents, confirmation of limited liability, confirmation that side letter rights apply, assurance that they will not be required to participate without consent or the right not to participate in an AIV created primarily to extend the fund term.
These provisions are particularly common in cross-border funds, funds with tax-exempt or non-US investors, China-related funds, funds using Cayman or Delaware parallel structures, and funds investing through special purpose vehicles.
The manager should preserve flexibility. AIVs and parallel funds are often necessary to make investments efficiently. Requiring every investor’s consent before using an AIV can be impractical. On the other hand, if an AIV imposes materially different liability, tax, confidentiality or regulatory consequences on an investor, the investor may reasonably ask for protections.
17. Excuse, exclusion and withdrawal rights
The 17th category consists of excuse, exclusion and withdrawal rights.
These provisions allow an investor to be excused from an investment or released from future capital contributions if participation would violate law, regulation, tax rules or specified internal policies. In the LPA, these rights often appear for ERISA partners, private foundation partners, governmental plan partners and bank holding company partners. Side letters may identify specific investor policies or restricted investments that trigger the accommodation.
Excuse rights are powerful. They alter the investor’s participation in the blind pool. They can affect allocations, expenses, capital commitments, diversification, borrowing base calculations and the fund’s ability to complete investments. They can also create fairness issues if one investor is allowed to avoid investments that later perform poorly.
For that reason, managers often require a legal, regulatory, tax or written internal policy basis. They may require the investor to provide notice and supporting information. They may limit the right to specific pre-identified categories. They may preserve the investor’s responsibility for management fees and expenses. They may require the investor to transfer its interest rather than merely opt out of investments. The fund should have clear mechanics for reallocating the excluded investment among remaining partners.
18. Fees, expenses and economic clarifications
The 18th category consists of fee, expense and economic clarification provisions.
These may address management fee offsets, placement fee offsets, organizational expense summaries, partnership expense reporting, no allocation of certain returned amounts, co-investment fees, portfolio company fees, indemnification expenses, audit expenses, LPAC expenses or investor-specific costs.
Private equity investors have become especially focused on fees and expenses. Side letters may require enhanced reporting of management fees, offsets, portfolio company fees, affiliate service provider fees, operating partner costs, broken deal expenses, regulatory expenses and indemnification payments. Venture capital funds may see fewer portfolio company fee issues but still face management fee offset, placement fee, expense reporting and organizational expense requests.
Managers should be careful that side letter economic provisions do not create inconsistent treatment or hidden preferences. If a provision affects the economic burden of expenses among investors, it should be considered carefully under the LPA, MFN provisions and disclosure principles. Investor-specific costs are often appropriately borne by the requesting investor. Fund-wide costs should generally be borne consistently with the LPA.
19. Digital assets, commodity interests and emerging asset classes
The 19th category consists of digital asset and commodity interest provisions.
Venture capital funds – and, increasingly, some private equity and growth funds – may invest in digital assets, token rights, blockchain-related instruments or companies whose securities have token features. Investors may ask for diligence commitments, notice rights, transfer rights, custody representations, commodity interest confirmations or the right not to receive digital assets in kind.
These provisions have become more common because digital assets can raise issues involving securities law, commodities law, custody, valuation, tax, sanctions, cybersecurity and internal policy. Even investors comfortable with venture capital may not be comfortable holding tokens directly.
Managers should define the strategy clearly in the LPA. If digital assets are within the mandate, investors should know that. Side letters can address investor-specific handling but should not quietly change the fund’s investment strategy. If digital assets are not expected, the side letter may simply acknowledge that the fund does not expect to invest in or distribute digital assets while preserving flexibility if the strategy permits.
Commodity interest provisions are related. Investors may want confirmation that the fund does not intend to trade commodity interests or become a commodity pool. If digital assets are excluded from that definition for side letter purposes, that should be stated clearly and consistently with counsel’s regulatory analysis.
20. Use of name, logo and publicity
The 20th category consists of use-of-name and publicity provisions.
Investors often prohibit the manager from using their name or logo in marketing materials without consent. This is common for endowments, foundations, sovereign investors, public pensions, family offices and corporate investors. Some investors may allow use of their name in confidential fundraising materials. Others prohibit any use except as required by law or in fund records.
Managers should take these provisions seriously. Accidentally listing an investor in a pitch deck, website, press release or conference presentation can violate a side letter. The fund’s investor relations and marketing teams should have a clear list of name-use restrictions.
21. Sovereign immunity, jurisdiction and liability limitations
The 21st category consists of sovereign immunity, jurisdiction, governing law, jury waiver, venue and liability limitations.
Sovereign and governmental investors often require provisions stating that they do not waive sovereign immunity, do not consent to certain jurisdictions beyond specified limits, are not required to provide guarantees or indemnities beyond their authority, and are not liable beyond their capital commitment and returnable distributions. Public entities may have statutory restrictions on indemnification, jury waiver, venue or dispute resolution.
These provisions are often necessary for the investor to participate. But they must be coordinated with the fund’s need to enforce capital commitments, subscription facility obligations, confidentiality, transfer restrictions and other core duties. A manager should understand whether the provision is merely preserving existing law or actually limiting remedies.
Practical considerations for managers
Side letters are manageable if approached systematically. They become dangerous when treated as one-off fundraising concessions.
First, managers should decide early what side letter provisions are generally acceptable, what provisions are acceptable only for large investors, what provisions are acceptable only for investors with a specific legal or regulatory need, and what provisions are not acceptable. This avoids inconsistent answers during fundraising.
Second, managers should keep a side letter matrix. The matrix should identify each investor, commitment amount, side letter rights, MFN status, elected provisions, nonelectable provisions, reporting obligations, notice obligations, transfer rights, disclosure rights, in-kind distribution elections, restricted investment provisions and special tax provisions. This matrix should be maintained over the life of the fund, not merely during closing.
Third, managers should coordinate side letters with fund administration. The people who call capital, send notices, prepare reports, handle distributions, manage transfers, interact with lenders and respond to investor requests need to know what the side letters require. A side letter that sits in a closing binder but is not operationalized is a future problem.
Fourth, managers should avoid side letter promises that require real-time investment-level determinations unless they have a process for making those determinations. Restricted investment provisions, sanctions provisions, CFIUS provisions, digital asset provisions and tax reporting provisions often require ongoing monitoring.
Fifth, managers should be careful with MFN drafting. The MFN should state who is eligible, which provisions are excluded, how commitments are measured, whether related investors are aggregated, whether the electing investor must share the same regulatory or policy concern, whether burdens travel with benefits, and when elections must be made.
Sixth, managers should remember that side letters are relationship documents. Investors request them because they need comfort. Managers negotiate them because they need to preserve flexibility. The best side letters solve the investor’s problem without creating a new problem for the fund.
A practical example
Consider a $750 million private equity fund with a global investor base. One investor is a US public pension plan. One is a sovereign wealth fund. One is a US university endowment. One is a European insurance company. One is a fund of funds. One is a private foundation. One is a bank-affiliated investor. One is a family office.
The public pension plan may ask for pay-to-play representations, placement agent confirmations, public records accommodations, LPAC rights and political contribution language. The sovereign wealth fund may ask for sovereign immunity, Section 892, CFIUS limitations, sanctions language and restrictions on required credit facility documents. The university may ask for tax reporting, confidentiality, in-kind distribution mechanics and advisory committee rights. The European insurer may ask for Solvency II or other regulatory reporting, ESG language, AEOI, and tax assistance. The fund of funds may ask to share information with underlying investors and aggregate related commitments. The private foundation may ask for private foundation protections and restricted investment accommodations. The bank-affiliated investor may ask for Bank Holding Company Act provisions and nonvoting interest language. The family office may ask for confidentiality sharing with family members and affiliates.
It would not make sense to put all these investor-specific provisions in the LPA. It also would not make sense to refuse all of them. Side letters allow the manager to solve these problems in a targeted way.
Now consider a venture capital fund investing globally in artificial intelligence, biotechnology, fintech and digital infrastructure. The same side letter architecture might include additional emphasis on CFIUS, outbound investment, sanctions, digital assets, in-kind distributions, public securities, PFIC and CFC reporting, China-related restrictions, confidentiality, and strategic co-investments. The fund may hold many minority positions and may not control portfolio companies, so its obligations must be drafted with that limitation in mind. “Commercially reasonable efforts” and “to the extent reasonably available” may be essential.
Side letters as a fund life cycle issue
It is tempting to think of side letters as a fundraising issue. They are negotiated at closing, so it is natural to associate them with fundraising. But the real work comes later.
When the fund makes an investment, someone may need to check restricted investment provisions, CFIUS provisions, sanctions provisions, tax provisions and investor excuse rights. When the fund sends capital call notices, someone may need to include use-of-proceeds detail for certain investors. When the fund distributes public securities, someone may need to check in-kind distribution elections. When the fund prepares annual reports, someone may need to include special tax, fee, expense or portfolio information. When the fund enters a subscription facility, lender counsel may review side letters. When a limited partner requests a transfer, someone may need to know whether affiliate transfer rights apply. When the manager raises a successor fund, someone may need to know whether any investor has a successor fund commitment right. When a continuation fund is proposed, side letter confidentiality, reporting, LPAC and conflict provisions may become relevant.
A manager that administers side letters well can reduce friction and build trust. A manager that administers them poorly can create avoidable disputes, even where the underlying fund performs well.
What fund managers should keep in mind
Side letters are not inherently pro-investor or anti-manager. They are tools. Like most tools, they can be used well or poorly.
For investors, side letters provide a way to address real constraints that may not apply to the broader investor base. They allow regulated, tax-sensitive, public, sovereign, mission-driven and structurally complex investors to participate in blind pool funds without forcing every investor to live with their special rules.
For managers, side letters are a way to raise capital from sophisticated investors while preserving a common fund agreement. But they require discipline. A manager should understand what it has promised, who has the benefit of each promise, whether the promise is electable by others, how it will be administered and whether it creates obligations beyond the legal team.
In our experience, the best side letters have three characteristics.
First, they are precise. They identify the investor’s concern and solve it directly.
Second, they are administrable. The manager can comply with them without heroic effort or subjective guesswork.
Third, they preserve the fund’s core bargain. They do not quietly transform the strategy, economics, governance or risk allocation for everyone else.
The least successful side letters are the opposite. They are broad, vague, difficult to operationalize and negotiated in the rush of closing without enough attention to how the fund will actually live with them.
A side letter should not be viewed as a harmless accommodation simply because it is short. A two-sentence provision can create a significant obligation. Conversely, a long provision may be entirely appropriate if it carefully addresses a complex regulatory issue for one investor.
In the end, side letters are a normal, important part of private fund formation. They reflect the reality that private equity and venture capital funds raise capital from investors with different legal regimes, tax profiles, policies, reporting needs and institutional constraints. The art is to accommodate those differences without undermining the common investment program.
That is why managers should treat side letters as part of fund architecture, not as afterthoughts. Done well, they make the fund more investable. Done poorly, they make the fund harder to administer. The difference is not whether side letters exist. In institutional funds, they usually will. The difference is whether they are drafted, disclosed and administered with the same care as the LPA itself.
The authors
