How do capital calls work?
Drawdown (sometimes referred to as closed-end) funds do not require investors to fund their full commitment upfront. Instead, capital is called over time as investments are made. Understanding how capital calls work can help investors plan liquidity, avoid surprises and determine how these strategies fit within a broader financial plan.
Published by the Investment Solutions Group | Alternative Investments Team
Key takeaways
- Drawdown funds call capital over time, so managers can fund investments as opportunities arise while investors retain uncalled capital until it is needed.
- Capital calls are made in portions over time and may span several years during a fund’s investment period.
- Not all Alternative Investments use capital calls; evergreen (perpetual) funds generally receive the full investment amount upfront.
- Since investors remain responsible for their full commitment, planning for liquidity is essential.
What is a capital call?
When investors commit to a drawdown fund, they agree to invest a specific total dollar amount, known as their capital commitment. Unlike traditional investments, these funds may take several years to deploy capital. Sourcing, evaluating and executing private market investments often happens gradually. As a result, investors usually contribute only a portion of their commitment initially.
A capital call, also referred to as a drawdown, is the fund’s formal request for investors to contribute a portion of their unfunded capital commitment.
By calling capital as needed, fund managers are able to deploy capital efficiently and align investor funding with investment timing. This helps investors maintain liquidity and optimize cash flow. Instead of parting with their entire commitment upfront, investors only provide funds when the manager finds an actionable opportunity.
Because these calls represent ongoing obligations throughout the investment period, investors should plan ahead to ensure sufficient liquidity is available when the calls are made.
Capital calls typically occur during a fund’s early years, often called the investment period, and are issued as needed to fund investments or cover fund expenses. However, the timing can be unpredictable, with periods of little or no activity sometimes followed by multiple capital calls in relatively quick succession.
NOTE
Capital called from investors may be used for new investments, to cover fund expenses (such as legal, audit and administrative costs) or to repay shorter-term credit lines used by the fund.
Funds also frequently use credit lines to manage timing, which allows them to issue fewer, larger capital calls (see the FAQ below for how this works).
Capital calls in action
- Capital commitment: The total amount an investor agrees to invest in the fund over time
- Capital call: A formal request for a portion of the remaining commitment
- Paid-in capital: The total amount the investor has contributed to date
- Uncalled capital: The amount of the capital commitment that has not yet been called
Do all Alternative Investments employ capital calls?
Not every strategy employs capital calls. They are standard in drawdown funds, which are frequently used for private markets strategies such as private equity, venture capital, infrastructure or real estate. These drawdown funds deploy capital over time, whereas evergreen (perpetual) funds usually collect the full investment amount at subscription and manage deployment internally within the portfolio.
How do capital calls work?
Capital calls are governed by the fund’s limited partnership agreement (LPA), which defines the terms under which the general partner (GP) may request capital from limited partners (LPs). Under this structure, the GP manages the fund and issues capital calls as needed, while LPs are contractually obligated to fund their committed capital.
A fund’s specific capital call process generally covers several key areas:
Timing
Capital calls do not follow a fixed schedule. Capital may be called at any point over several years. Periods with no activity are common and do not indicate that a commitment has ended. Some funds may rely on credit lines and issue capital calls later. The notice period is often approximately two weeks, though the specific timeframe differs fund to fund.
Amounts
The size of each capital call varies based on investment pacing and cash needs. Some funds call larger amounts early, while others spread calls more evenly. Over the life of the fund:
- Individual capital calls are generally limited to your uncalled commitment, though some funds may call modestly above your total commitment to cover fees and expenses, subject to a cap in the fund’s governing documents
- Total called capital may ultimately be slightly more or less than your full commitment
Recallable distributions
Some funds issue recallable distributions, which are cash payments that may be called back if needed for future investments or expenses. For example, if a fund distributes $50,000 and later recalls it to fund a new investment, that amount is added back to your available uncalled commitment. These distributions:
- Do not represent permanent returns of capital
- Do not reduce the investor’s overall commitment
Notification
Investors receive a capital call notice, either electronically or in writing, detailing:
- The percentage or dollar amount being called
- The due date, typically a set number of days after the notice is issued
Funding
Investors must ensure that funds are available in their account by the stated due date in the capital call notice or risk default.
Planning for capital calls in your portfolio
Investors are responsible for 100% of their commitment at any time, so it is important to consider overall portfolio liquidity before subscribing to a fund. Below are some of the readiness and monitoring commitments you should plan for when investing in these funds:
- Ensuring enough liquidity for the full uncalled commitment at all times; some investors also establish a loan management account (LMA) or similar credit facility to help ensure liquidity is available when a capital call is issued
- Expecting that calls can fund expenses or even a credit line, not just new deals
- Watching out for recallable distributions (see above), which can be called back to fund a simultaneous call
- Maintaining current ownership and contact records after any transfer, since a records gap can lead to a missed capital call notice
Your Merrill advisor can help you develop a liquidity management strategy tailored to your goals and financial needs, to help ensure you are prepared to meet capital calls as they occur.
What should you know about meeting your commitments?
NOTE
Failing to meet a capital call may constitute a default under the fund’s governing documents and could impact other investors by limiting the fund’s ability to execute its investment strategy.
Capital calls are legally binding obligations. Depending on the situation and the fund’s governing documents, consequences may include financial penalties, forfeiture or dilution of the investor’s interest in the fund, distribution suspensions or, in some cases, legal action. For this reason, you should be comfortable in your ability to meet these commitments before investing in a fund.
What this means for you
Capital calls are a normal part of drawdown funds, helping strategies deploy capital efficiently as opportunities arise. Understanding how capital calls work — and planning accordingly — can help investors manage liquidity and integrate these strategies into an overall financial plan. Your Merrill advisor can help you plan to meet these commitments and integrate them smoothly into your overall financial strategy.
Frequently asked questions
When you originally subscribed to the fund, you agreed to a total commitment. If you have only contributed a portion of that amount, you remain contractually obligated to fund the remaining unfunded amount. The fund manager (General Partner) can require that you supply this remaining capital at any time. Beyond your agreed-upon commitment (and any limited above-commitment amounts permitted by the fund’s governing documents), you are generally not liable for additional out-of-pocket money.
Alternative Investments are speculative and involve a high degree of risk.
Alternative Investments are intended for qualified investors only. Alternative Investments such as derivatives, hedge funds, private market offerings, and funds of funds can result in higher return potential but also higher loss potential. Changes in economic conditions or other circumstances may adversely affect your investments. Before you invest in Alternative Investments, you should consider your overall financial situation, how much money you have to invest, your need for liquidity, and your tolerance for risk.
When considering the appropriateness of mutual funds or Alternative Investments, please be aware that there are significant differences between these investments which will cause their investment portfolios, performance, tax treatment and other factors to differ. These differences include the types, availability and diversity of securities that can be purchased, economies of scale, regulations and other factors applicable to their management.
