How to Start a Venture Capital Fund: A Step-by-Step Guide for Emerging Managers

Starting a venture capital fund is a lot more involved than angel investing. When you’re fundraising and signing limited partners (LPs), you have as many operational considerations as investment ones. The general partners (GPs) who attract institutional LPs have the operational side buttoned up from day one.

In this article, we’ll walk through the steps to launch your first VC fund and the service providers you’ll need to run it efficiently and support a successful growth strategy.

Define Your Investment Thesis

Your very first step is to define your investment thesis. Your investment thesis is what will differentiate you in a crowded VC market. It guides your investment strategy and supports your strategic decision-making, spelling out why you believe a particular investment will deliver huge returns. Since up to 80% of VC investments fail, you need to explain to potential investors how your fund will be able to pick a unicorn.

A focused, differentiated thesis is what attracts LP capital. If you can’t clearly explain your thesis in a pitch deck, you’ll be hard pressed to get meetings with the LPs you want. Your thesis will also determine the type of LPs you attract — larger investors, well-connected investors, and funds of funds. Institutional LPs have their own mandates and will decide to invest with your fund — or not — based on your focus.

In order to develop a strong thesis, you’ll need to do your homework. That means meeting founders, attending conferences, and performing extensive market research. Read industry publications, pick mentors’ brains, and identify and clarify what you know about the industry and where you can uniquely add value. Only by developing a strong understanding of the VC world can you begin to identify emerging trends and narrow your focus.

When you define your investment criteria, you’ll decide what stage of startup you want to invest in — seed, early stage, or late stage — as well as your preferred investment size and the level of diversification you’re looking to achieve in your portfolio. Be as specific as possible about your investment criteria to keep your investments matched to your goals.

Build Your Track Record

Probably the hardest part of launching a venture capital fund happens before you launch — building a track record. You need to have some deals under your belt to prove that you’ve successfully picked winning investments in the past. Institutional LPs in particular will want to see quantifiable metrics that show what you’ve achieved.

If you’ve worked in VC and are able to offer up specifics — “in previous roles, I raised over $1 billion in venture capital funds”— that shows you’ve got the fundraising skillset LPs want to see. It’s much less effective to hold up vague “years of experience in the VC industry” as a proof point.

If you’ve never worked in VC or run a fund before, consider starting as an angel investor, investing your own capital in a company or two. This would demonstrate to LPs that you have experience picking promising companies.

If you don’t have capital to invest, you could start a special purpose vehicle (SPV), which is an entity that pools money from different investors into one specific startup. This would allow you to manage the SPV and attract smaller investors while limiting your legal liability.

Other ways you can establish credibility in the industry are through building and providing value to an influential network, serving on startup boards, or taking advisory roles to show your involvement in early-stage companies.

Build Your Team

If you plan to have multiple GPs (and your firm is large enough to support the overhead costs), pick a team with complementary skills. You’ll want a leadership team that can handle deal sourcing, LP relationships, and fundraising. It’s rare to find one person with all three skillsets.

With a smaller fund, you may launch as a solo GP, but keep in mind this makes outsourcing your back-office functions even more critical. While you may have junior associates to help with front-office tasks, having a strong operations team right from the beginning will be key to attracting higher-quality and institutional LPs.

You’ll need to consider outsourcing:

• Legal counsel to help with structuring your fund and drafting legal documents
• A fund administrator to manage onboarding, compliance, capital call and distribution processing, and accounting
• An auditor if your fund will require an audit, particularly if institutional LPs or your limited partnership agreement (LPA) require one
• A tax professional to help advise you on and prepare tax filings

Structure Your Fund Legally

It’s important to properly structure your fund right out of the gate. You’ll need an attorney to help— this is not a place to cut costs.

The standard structure for venture capital funds in the United States is a limited partnership, with two related entities. The fund itself is normally structured as a limited partnership. LPs commit capital to this entity. The GP is the second entity, usually a limited liability company (LLC), that controls the fund, makes investment decisions, and receives carried interest. The third entity is the management company. The management company hires the team and pays the firm’s operating expenses. The management company operates using management fees collected from the fund to pay its expenses.

Structuring the fund with three separate entities in this way legally protects the GP. It keeps fee income distinct from carry income, an important distinction for clean financial statements, and makes it easier to launch subsequent funds under the same management company.

Delaware is the default jurisdiction for fund formation in the United States, and with good reason. There are more than 2.2 million entities registered in the state, including over two-thirds of Fortune 500 corporations. Its judiciary is knowledgeable and responsive, with a long track record of handling partnership disputes, so outcomes are predictable. Institutional LPs also look for legal entities to be set up in Delaware.

Three core legal documents are required to establish your fund:

• Limited partnership agreement (LPA): Legally defines roles and responsibilities and sets management fees, carry plan calculations, distribution waterfall, capital call process, and LP rights
• Private placement memorandum (PPM): Disclosure document essential for security law compliance that describes the fund’s strategy, terms, and potential risks to prospective LPs
• Subscription agreement: The paperwork an LP signs to officially commit capital. It confirms eligibility and captures investor data needed for onboarding, capital calls, distributions, and tax reporting

Registration and Compliance Obligations

Most venture capital funds are structured to avoid registering with the Securities and Exchange Commission (SEC) as investment companies. The Investment Company Act provides two exemptions that make this possible:

• Section 3(c)(1) exempts funds with no more than 100 beneficial owners, who generally must be accredited investors. Smaller funds get more leeway: a qualifying venture capital fund with no more than $12 million in capital contributions and uncalled commitments can accept up to 250 investors.
• Section 3(c)(7) has no upper investment limit, but every investor must be a qualified purchaser, which is a significantly higher bar than “accredited” status. Most 3(c)(7) funds stay below 2,000 investors to avoid triggering public reporting requirements.

For emerging managers fundraising from a mix of individuals and smaller institutions, 3(c)(1) is the most typical path, but you’ll have to keep a close eye on investor count as you scale.

How you offer interest in your funds is governed separately by Regulation D, which allows a fund to raise an unlimited amount of money from private investors without registering the offering under the following conditions:

• Rule 506(b) allows unlimited fundraising for up to 35 knowledgeable non-accredited investors, but strictly prohibits public advertising
• Rule 506(c) allows advertising, but every investor must be an actively verified accredited investor

Fundraising with these rules also commonly requires a Form D filing with the SEC within 15 days of first closing and blue sky filings (Form D, plus a state fee) in each state where an LP resides.

At the GP level, most VC managers don’t register as investment advisers with the SEC and instead rely on the venture capital fund exemption. This allows them to file as Exempt Reporting Advisers (ERAs) annually using a shorter Form ADV instead of the more comprehensive, stringent, and expensive investment adviser registration.

There are also compliance obligations you need to fulfill to successfully launch and run a VC fund. If you work with a fund administrator, they typically handle many of these processes.

Anti-Money Laundering (AML) and Know Your Client (KYC) background checks are required for each LP you onboard. Institutional LPs will conduct operational due diligence on your firm’s compliance processes. They prefer and often require third-party administrators with established AML/KYC processes to ensure secure, compliant, and efficient operations are in place.

Talk to your fund’s legal counsel for complete information and advice about registration and compliance for your fund.

Raise Your Fund and Onboard LPs the Right Way

Once you’ve developed an investment thesis, established your track record, and set up your fund, it’s time to fundraise. While venture capital funds are responsible for as many as 75% of the largest U.S. companies founded in the past 50 years, according to the Harvard Business Review, attracting capital to a new fund can be extremely difficult.

VCs typically raise money from high-net-worth individuals, family offices, corporations, institutional investors, and even other venture capitalists.

Start with a soft circle and outreach to potential LPs to gauge their interest and refine your pitch. Once you’re confident in your story, you can begin to distribute offering documents (the PPM and subscription agreement) to qualified prospects. Closings happen in stages as LPs commit capital and formally sign subscription agreements.

Your fund administrator can handle many of the operational onboarding tasks. Even a small fund with $15-25 million in commitments could have up to 20 to 40 LPs — that's a significantly detailed and time-consuming onboarding and ongoing reporting obligation.

Your admin will get LPs set up on a white-labeled portal, process subscription documents and AML/KYC verification (often digitally with e-subscription tools), certify accredited investor status, and get LP bank accounts connected.

Fast, clean onboarding sets the tone for the LP relationship. LPs appreciate seamless onboarding processes that signals professional administrative systems are in place.

Build Your Operational Infrastructure

It’s easy to underestimate the complexity of fund operational infrastructures. One of your best investments will be in knowledgeable service providers who can establish a clean operational setup from the start.

Choose a fund administrator who can work in concert with your counsel, auditor, and tax preparer. This outsourced team should take middle- and back-end tasks off your plate, not create unnecessary hurdles because they don’t communicate and collaborate.

One-Stop Solution

Look for a partner that offers comprehensive services at a competitive price—GP/ManCo books, e-subscriptions, tax services, and audit support. Even if you don’t need audit support services in the beginning, it’s more convenient to work with a service provider that can offer a suite of services should you need those them as your fund grows.

A top-tier fund administrator will be able to easily handle some of the unique operational needs of a VC fund, including a high volume of transactions relative to AUM, the timing of frequent capital calls, follow-on rounds, distributions, management fee draws, and expense allocations.

Look for a fund admin that will provide accurate valuations reported on a reliably timely basis to your LPs. Consider an admin that can produce daily or monthly reporting, instead of just quarterly. Required VC fund reporting activity includes fund financials, investor capital account statements, capital call notices, distribution notices, and K-1s at tax time, which some fund admins provide for an additional fee.

Technology

Getting subscription paperwork done and onboarding your investors is a detailed and lengthy process. Fund admins may offer tools to automate the process and take most of the operational burden off your shoulders. E-subscriptions allow investors to provide personal profile and bank account information, AML/KYC documentation, and tax documents directly into a portal, without you having to send hundreds of emails and manually track who’s completed the process. Data rooms enable you to create secure web pages to professionally market funds to prospective investors with easy-to-use pre-designed or fully customizable templates, a secure document repository, and access logs.

Additional benefits of hiring a fund administrator:

• Expected by institutional LPs: A reputable, independent administrator signals that NAV and fund reporting aren't being self-reported by the GP.
• Data security and compliance infrastructure: Since admins specialize in back-end processes, most have cutting-edge security and compliance processes in place and hold applicable ISO and SOC certifications. If you handle admin in-house and lack stringent data security measures, you could experience huge financial and reputational impacts if your systems are compromised.
• Scalability: Most admins will be able to provide the same level of service for double the LPs and twice the portfolio companies without straining internal staff.

Manage the Fund Lifecycle

A venture capital fund lifecycle is long, typically 10 years or more. That’s why it’s especially important that your operations processes are optimized at launch, particularly the timing, tracking, and transparency of capital calls and distributions.

Other important lifecycle tasks include:

• Ongoing portfolio management and valuation: GPs need to track performance of each portfolio company for LP reporting; quarterly fair value assessments are standard.
• Quarterly reporting: LPs (especially institutional LPs) expect detailed, accurate, timely reports.
• Exits and harvesting: Identify the optimal time for an exit. Exits are typically triggered through mergers and acquisitions, IPOs, or secondary offerings.
• Distributions: Calculating the waterfall (return of capital, preferred return, and carried interest) is based on the LPA. GPs receive carried interest once the fund meets its preferred return or hurdle rate.

Satisfied LPs provide fuel to your fundraising efforts. If you keep your LPs happy and informed, through transparent capital call processes, fast distributions, and accessible, accurate reporting, they’ll likely re-up, making it easier to attract additional institutional capital sources for your next fund.