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Hedge Fund Business Models
Hedge Fund Business Models

Hedge Fund Business Models

are taxed the same as a general partnership. A partnership may be created
formally, but a partnership is the default business structure when two or
more individuals or businesses cooperate to create a business. A partner-
ship receives flow-through tax treatment and may or may not report the
business income as self-employment income.
The two most important partnership structures are described next.
The differences primarily involve the scope of liability of the investors.
General Partnership
A general partnership has only one category of part-
ners, and there must be at least two partners. The general partnership re-
ceives flow-through tax treatment, avoiding the double taxation of the
returns. All partners are wholly liable for the obligations of the partner-
ship. For hedge funds, this means that investors could be required to as-
sume liabilities beyond their investments in the hedge fund, if the fund
loses more than 100 percent of the capital under management.
General-Limited Partnership
A general-limited partnership (also called
limited partnership) resembles a general partnership, except that one
class of partners (the general partner or general partners) has unlimited
liability for the obligations of the partnership and a second class of part-
ners (the limited partner or limited partners) has no liability for the oblig-
ations of the partnership beyond the investment committed to the
partnership. A limited partnership must have at least one general partner
and one limited partner.
The limited partnership is a good structure for a hedge fund in a tax-
able domicile because the structure avoids double taxation of investment
returns and can create a limited liability for the hedge fund investors. The
general partners assume unlimited liability for the obligations of the hedge
fund, but, as described in Chapter 5, the general partner can be a business
entity with a limited capital base that effectively removes the general liabil-
ity risks.
Limited Liability Partnership
The limited liability partnership (LLP) is very
similar to an LLC but is used to organize the professional practices of ac-
countants, lawyers, and architects. California first created the LLP struc-
ture, and to date very few states allow for the LLP structure. Although the
structure has flow-through tax status and limited liability, it cannot be used
for the hedge fund assets because that business unit has few or no employ-
ees who are accountants, lawyers, or architects. The management company
could arguably be structured as an LLP in some cases, but the LLP is not
an important business model for hedge fund managers.
Hedge Fund Business Models
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