🛠️ Investment Fund Key Terms, Part 11

🎉 Happy Friday, funds family!

Today, we have Part 11 in our many-part series walking through each term in an investment fund term sheet in detail.

Here’s the index of each article in this series (so far):

• Part 1: Naming your entities

• Part 2: Investment objectives

• Part 3: Fund size

• Part 4: LP minimum check size

• Part 5: GP commitment

• Part 6: Fund term

• Part 7: Fundraising period

• Part 8: Investment period

• Part 9: Capital recycling

• Part 10: Investment limitations

This week focuses on Leverage Limitations. 

Leverage can magnify returns 📈but it also magnifies risk 📉. As a result, many fund documents include clear borrowing restrictions and caps on fund-level debt.

Here's a sample provision:

➡️ Why limit leverage?

Leverage restrictions exist to protect LPs and preserve the fund’s risk profile.

Typical uses of leverage include:

1. Subscription lines: Short-term loans secured by uncalled commitments to smooth capital calls.

2. Acquisition financing: Bridge loans that allow the fund to close investments before capital is drawn.

3. NAV or asset-based facilities: Loans secured by portfolio assets, used later in a fund’s life for liquidity or distributions.

4. Levering up to magnify returns. Takes money to make money…or something.

In any of the cases above, the LPs want to ensure the GP doesn’t start getting crazy overleveraged. 😵‍💫 

➡️ Leverage limits under the Venture Capital Fund Exemption

Under the Investment Advisers Act, a fund that wants to qualify as a “venture capital fund” (and therefore avoid registration as an investment adviser) must meet several tests — one of which directly limits the use of leverage.

Specifically:

1. The fund cannot borrow, issue debt obligations, or otherwise incur leverage in excess of 15% of the fund’s aggregate capital contributions and uncalled committed capital; and

2. Any such borrowing must be for a non-renewable term of no longer than 120 calendar days.

In practice, that means:

✅ Short-term subscription lines are typically fine
🚫 Long-term NAV loans or asset-level financing are not

So for venture funds operating under the VC Exemption, leverage limitations aren’t just investor protections – they’re a regulatory requirement.

For more details, check out this article: ⚖️3 Key Fund/SPV Laws You Must Know, Part 3 (2025 Update) 

🗓️ Next up in Part 12: LP Withdrawals.

Thanks for reading, everyone.

Have a great weekend! 🙌 

⚠️ Note: This newsletter is for informational purposes only and nothing should be considered legal advice. For that, hire a lawyer! I am a lawyer, but not your lawyer (unless I actually am your lawyer because you’ve signed an engagement letter and we’re working together). This newsletter may be considered attorney advertising.