SMB Private Equity Fee Structures Explained: What LPs Should Know

By Sean Smith

TL;DR: Fee structures in SMB private equity vary widely. Self-funded searchers typically take no management fee, a $120-150K salary post-close, and a 2x equity step-up. Independent sponsors charge 5-10% of EBITDA in management fees plus tiered carry. Small PE funds follow a modified 2/20 model. Understanding fee drag is critical — it can reduce gross returns by 8-12 percentage points. Always calculate net-of-fee returns before committing capital.

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Why Fees Matter More in SMB

In large-cap PE, a 2% management fee on a $5B fund generates $100M annually — enough to build institutional infrastructure. In SMB, the same 2% on a $20M fund generates $400K. That barely covers overhead.

This math forces SMB operators into different fee structures. Some are LP-friendly. Others are designed to compensate the operator at the expense of investor returns. Knowing the difference is essential for any LP evaluating opportunities in this space. For a broader structural comparison, see our guide on search funds vs. traditional PE.

Self-Funded Search Economics

Self-funded search is the most LP-aligned structure in SMB private equity, primarily because the operator bears the search cost personally.

During the search phase:

• No management fee
• Operator funds their own search expenses (typically $50-100K over 12-24 months)
• No capital is called from investors until an acquisition is identified

Post-acquisition:

• Operator salary: $120,000 to $150,000 annually, depending on deal size and geography. This is below market for the role, which is intentional — the operator's upside comes from equity, not salary.
• Equity step-up: The operator typically receives a 2x step-up on their invested capital. If they invest $200K, they receive equity credit for $400K. This rewards the risk taken during the unfunded search.
• Preferred dividend: LPs typically receive a 10-15% preferred dividend before the operator participates in distributions.
• Put option: Many self-funded search deals include a put option allowing LPs to force a liquidity event after 5-7 years, ensuring the operator can't hold the investment indefinitely.

Net assessment: The self-funded search model is among the most aligned in private equity. The operator's personal capital is at risk, there's no fee drag during search, and the preferred dividend protects LP downside.

Independent Sponsor Fee Structures

Independent sponsors (also called fundless sponsors) raise capital on a deal-by-deal basis. Their fee structures are more complex and more variable.

Management fees:

• Typically 5-10% of acquired company EBITDA (not committed capital)
• Paid from the portfolio company's cash flow
• Some independent sponsors charge a flat annual fee instead
• This is materially higher than traditional PE management fees as a percentage of deal value

Transaction fees:

• Approximately 2% of enterprise value at close
• Charged to the portfolio company (effectively to the LPs)
• Justified as compensation for sourcing and structuring the deal

Carried interest:

• Tiered above an 8% preferred return hurdle
• Common structure: 20% carry on returns above 8% IRR, stepping up to 25-30% above higher thresholds
• Some independent sponsors negotiate catch-up provisions that accelerate their carry

Management equity:

• Independent sponsors often negotiate larger management equity pools (15-25%) compared to self-funded searchers
• This dilutes LP ownership but is intended to incentivize ongoing value creation

Net assessment: Independent sponsor deals can work well for LPs, but the fee structures require careful analysis. The combination of management fees, transaction fees, and carry can create significant drag. Always model net returns after all fees.

Small PE Fund Fees

Small PE funds ($25M-$150M) adapt the traditional 2/20 model for smaller scale:

Management fees:

• 1.5-2.0% of committed capital during the investment period
• Often steps down to 1.0-1.5% of invested capital after the investment period ends
• On a $50M fund, this generates $750K-$1M annually — enough for a small team but not much infrastructure

Carried interest:

• 20% of profits above an 8% preferred return
• Most small funds use a European-style waterfall (carry calculated on whole-fund returns, not deal-by-deal)
• GP catch-up provisions vary

Other fees:

• Organizational expenses (fund formation, legal) — typically capped at 1-2% of fund size
• Broken deal expenses may be charged to the fund
• Some funds offset management fees with transaction and monitoring fees

Net assessment: The fund structure provides diversification and professional management. But the fee load is real — on a fund generating 20% gross returns, LPs might see 14-16% net after management fees and carry.

What to Watch For

Calculate fee drag explicitly. Don't rely on the GP's projected net returns. Build your own model with all fees included. A deal generating $2M in annual EBITDA with $150K in management fees, a $100K monitoring fee, and 20% carry has very different economics than the gross numbers suggest.

Test alignment. Ask a simple question: under what scenario does the operator make money while LPs lose money? If the fee structure allows the operator to extract value through fees even when the investment performs poorly, the alignment is broken.

Benchmark against alternatives. If you are new to the asset class, our guide to getting started with SMB investing explains how fee structures fit into the broader investment picture. Compare the all-in fee load against other SMB investment opportunities. If one operator charges 2x the fees of a comparable deal, they need to demonstrate 2x the value-add.

For more on evaluating SMB fund opportunities holistically, see our guide on how to evaluate an SMB fund. For the complete diligence framework, read the LP Due Diligence Guide.

Download the LP Due Diligence Template to systematize your fee analysis alongside 19 other critical evaluation criteria.