Key trends in venture capital funds: increasing use of LP transfers

As the venture capital landscape continues to mature and evolve, participants and practitioners in the US have likely noticed a steadily increasing incidence of transfer requests by LPs and the prevalence of other, more comprehensive secondary transactions. What are the reasons for this increase and what are the regulatory, tax, and practical considerations?

Almost all fund agreements require LP transfers to be approved by the GP of the fund. Historically, those requests have been infrequent – often caused by the gift, estate planning, or death of an LP, or a change in the LP’s financial circumstances. Provided the transferee meets the relevant suitability standards of the applicable fund, GPs are inclined to approve the transfers with as little fanfare as possible. Few want to broadcast that LPs are opting out of the fund or that any LP is having financial difficulty. As the average runway length to exit of many funds’ portfolio companies has gotten longer, and the funds’ terms correspondingly extended by multiple years, more LPs have been looking for buyers to meet their internal liquidity needs. Others are seeking to implement a different product mix or to diversify their portfolios, given the length of time from first investment in particular funds. Some things to consider are whether side letter provisions and holding periods transfer with the interest, who will pay the costs of transfer, and who will be responsible for any potential LP claw-backs and tax liabilities. Also worth considering is whether the transferee will be admitted as a full LP or remain an ‘unadmitted transferee’ – entitled to economic benefits but without voting or information rights.