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Incentive Fee

Definition of an Incentive Fee

An incentive fee, also known as a performance fee, is a fee which a client fund may be charged by the investment manager that manages its assets. The cost of performance fee may be calculated many ways and will be dependent upon the contract made with the client. With respect to a separate account, it is often based on the change in net realized and unrealized gains, although in some cases, it can be based on other measures, such as net income generated. While not very common, some fund managers have attempted to link the performance fee to both upward and downward movement in a fund's gains, such as the shock absorber fee, where the fund manager gets penalized for adverse movement in the fund value. With respect to hedge funds and other investment funds, it is generally calculated by reference to the increase in the client fund's net asset value, which represents the value of the fund's investments.

What is an 'Incentive Fee'

An incentive fee is a fee paid to a fund manager by investors. Incentive fees are typically dependent upon the manager's performance over a given period and are usually taken in relation to a benchmark index. For instance, a fund manager may receive an incentive fee if his or her fund outperforms the S&P 500 Index over a calendar year, and may increase as the level of outperformance grows.

Explaining 'Incentive Fee'

Incentive fees are usually in place to tie a manager's compensation to their level of performance, more specifically their level of financial return. However, such fees can sometime lead to increased levels of risk taking, as managers attempt to increase incentive levels through riskier ventures than outlined in a fund's prospectus.



Further Reading


Incentive fees and mutual funds www.worldscientific.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Incentives and risk taking in hedge fundsIncentives and risk taking in hedge funds www.sciencedirect.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
The optimal dynamic investment policy for a fund manager compensated with an incentive feeThe optimal dynamic investment policy for a fund manager compensated with an incentive fee papers.ssrn.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Incentive contracts in delegated portfolio managementIncentive contracts in delegated portfolio management academic.oup.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Performance incentive fees: An agency theoretic approachPerformance incentive fees: An agency theoretic approach www.jstor.org [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Role of managerial incentives and discretion in hedge fund performanceRole of managerial incentives and discretion in hedge fund performance onlinelibrary.wiley.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Hedge fund incentive fees and the “free option”Hedge fund incentive fees and the “free option” jai.pm-research.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Discretionary accounting accruals, managers' incentives, and audit feesDiscretionary accounting accruals, managers' incentives, and audit fees onlinelibrary.wiley.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
Incentives and financing methodsIncentives and financing methods www.sciencedirect.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…
The economics of hedge fundsThe economics of hedge funds www.sciencedirect.com [PDF] … A second advantage of studying incentives for mutual funds is that these funds exist alongside mutual… This can be expressed as a never-negative incentive fee by stating the fee as a 60… This means that fee rates are always convex over the lower range of performance and are…


Q&A About Incentive Fee


How is incentive fee calculated?

The next column over is the incentive fee column; incentive fees are calculated by taking the profit for that period subtracting the management fee then multiplying it by the incentive fee percentage (20%).Apr 20, 2015

What are incentive fees in hedge funds?

An incentive fee is a fee charged by a fund manager based on a fund's performance over a given period. The fee is usually compared to a benchmark.

How are incentive fees taxed?

Incentive fees are taxed as ordinary income. ... Thus, managers typically receive a portion of their compensation in the form of capital gains and qualified dividends, which are taxed at lower rates.

What are cost incentives?

(a) Most incentive contracts include only cost incentives, which take the form of a profit or fee adjustment formula and are intended to motivate the contractor to effectively manage costs. (3) Actual cost that is below the target will result in upward adjustment of target profit or fee. ...

What is fixed price incentive fee?

A fixed price incentive fee (FPIF) contract is a fixed price contract combined with an incentive fee. The seller will receive a bonus for finishing early or surpassing other metrics agreed upon in advance, such as quality. Incentives can be win-win for buyer and seller.

What fees do private equity firms charge?

Private equity managers charge their investors an annual management fee, typically 1.5% – 2.0% of committed capital, which goes to support overhead costs such as investment staff salaries, due diligence expenses and ongoing portfolio company monitoring.Oct 9, 2019

What is the purpose of the incentive fee for the manager of a private equity fund?

Incentive fees are intricate for good reason: They are designed as an ongoing performance incentive and structured to control expenses. These fees align the interests of shareholders and the fund manager by allowing the fund manager to participate in the excess income beyond the hurdle rate.

How is private equity performance fee calculated?

The performance fee is usually in the region of 20% of profits from investments, and this fee is referred to as carried interest in the world of private investment funds.

What is an incentive contract?

Incentive contracts are designed to obtain specific acquisition objectives by- (1) Establishing reasonable and attainable targets that are clearly communicated to the contractor; and. (2) Including appropriate incentive arrangements designed to- (i) motivate contractor efforts that might not otherwise be emphasized; ...

How is cost-plus-incentive-fee contract calculated?

Target Cost = 1,000.Target Fee = 100.Benefit/Cost Sharing Ratio for cost overruns = 80% Client / 20% Contractor.Benefit/Cost Sharing Ratio for cost underruns = 60% Client / 40% Contractor.

What is the purpose of incentive contracts?

The purpose of incentive contracts is to tie a financial reward to the completion of an objective. Incentive contracting typically involves a fixed price or cost reimbursement contract.

What is fixed price incentive fee contract?

A fixed-price incentive contract is a fixed-price contract that provides for adjusting profit and establishing the final contract price by application of a formula based on the relationship of total final negotiated cost to total target cost. The final price is subject to a price ceiling, negotiated at the outset.

What is a fund incentive fee?

An incentive fee is a fee charged by a fund manager based on a fund's performance over a given period. The fee is usually compared to a benchmark.

What is management fee and incentive fee?

Compensation for a fund manager generally has two components: a management fee and an incentive fee. A management fee is typically calculated based on a straightforward percentage of assets. The calculation of an incentive fee is based on performance and, as a result, requires more explanation.

What is crystallization of incentive fee?

The crystallization frequency or incentive fee payment schedule refers to the frequency with which investors have to pay the incentive fee to the hedge fund manager. It is also the point in time where the hedge fund updates the high-water mark.

What is incentive management fee?

Incentive Management Fees means the property management fees paid to a Manager for property management (as opposed to asset management) services provided to the Individual Properties that are based on an override, profit participation or other form of incentive for increased revenues or profits generated by such ...

What are management fees?

Management fees are the cost of having an investment fund professionally managed by an investment manager. The management fees cover not only the cost of paying the managers but also the costs of investor relations and any administrative costs.

What is crystallized incentive fee?

The crystallization frequency or incentive fee payment schedule refers to the frequency with which investors have to pay the incentive fee to the hedge fund manager. It is also the point in time where the hedge fund updates the high-water mark.

What is crystallisation in hedge fund?

Crystallization is the selling of a security to trigger capital gains or losses. Once there is a capital gain or loss, investment tax applies to the proceeds.

What is incentive fee in private equity?

An incentive fee is a fee charged by a fund manager based on a fund's performance over a given period. The fee is usually compared to a benchmark.Mar 19, 2020

Is carried interest a fee?

Carried interest is a share of the profits of an investment paid to the investment manager in excess of the amount that the manager contributes to the partnership, specifically in alternative investments i.e., private equity and hedge funds. It is a performance fee rewarding the manager for enhancing performance.

What is a carried interest vehicle?

Carried interest structures The fund manager will need to decide what sort of vehicle will receive the carried interest (the carry vehicle). ... The carry vehicle acquires an interest in the fund at the start of the fund's life; typically, in funds structured as limited partnerships, by becoming a limited partner.Jul 28, 2016

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