Continuation Vehicles and Your Carried Interest: The PE Professional's Tax and Planning Guide

When your PE firm runs a GP-led continuation vehicle, carried interest doesn't just flow through passively — it crystallizes at the transaction price, creating a taxable event that most carry holders aren't prepared for. Whether you receive cash or roll your carry into the new vehicle has significant tax and wealth-planning implications. The global GP-led secondary market reached $115 billion in 2025, a record level, meaning continuation vehicle decisions are no longer a once-in-a-career event for many PE professionals. This guide covers how the carry mechanics work, the § 1061 tax analysis, and what to plan before your firm announces the deal.

What Is a Continuation Vehicle?

A continuation vehicle (CV) — also called a continuation fund or single-asset continuation vehicle — is a GP-led secondary transaction in which the manager transfers one or more portfolio companies from an existing fund into a new vehicle, offering existing LPs the choice to either take liquidity at the agreed transaction price or roll their interest into the new fund alongside new capital from secondary buyers.

CVs have become the dominant form of GP-led secondary activity. In 2025, global GP-led secondary volume reached $115 billion, with continuation vehicles accounting for 89% of that activity.¹ The total secondary market — LP-led plus GP-led — hit $226 billion in 2025, up 41% from 2024.¹ This is no longer an exotic structure; mid-market and large buyout managers routinely use CVs to provide LP liquidity while retaining exposure to their best-performing assets for an extended hold.

Why GPs run continuation vehicles

The motivations from the GP's perspective:

• Extend hold on a high-conviction asset: The existing fund may be near the end of its contractual life (year 10–12), but the portfolio company isn't ready for a full exit. A CV extends the hold by 3–5 years inside a properly-constituted fund structure, rather than via an extension vote that some LPs would resist.
• Provide LP liquidity while preserving upside: LPs who need liquidity can exit at the CV price. LPs with conviction in the asset and patience roll alongside the GP.
• Fundraising signaling: A well-priced CV on a successful asset demonstrates the GP's track record (DPI) to prospective limited partners in Fund V or VI. Crystallizing carry creates realized gains that show up in the fund's DPI — a metric increasingly scrutinized by LPs during fundraises.
• Portfolio concentration management: Some buyout funds have become single-asset or two-asset funds due to prior exits. A CV is a cleaner structure for managing a concentrated position with a defined exit strategy.

How Carried Interest Crystallizes in a CV

This is the mechanics most carry holders don't fully understand until the deal is closing. In a standard PE fund with a carried interest structure:

1. The GP carries a 20% interest in fund profits above the preferred return (typically 8% IRR) through the carried interest / profits interest award.
2. During normal fund operations, carry is unrealized — paper. It exists only as a claim on future distributions.
3. In a CV transaction, the portfolio company is effectively sold to the new vehicle at an agreed price. For the existing fund, this is a partial or full exit of that asset.
4. At the moment of transfer, the existing fund recognizes gain on the asset at the transaction price. This gain flows through the fund waterfall — return of capital, preferred return, GP catch-up, and then carry split.
5. If the fund has hit its preferred return hurdle, the GP receives carry proceeds from this exit — this is carry crystallization.

The resulting carry is real, taxable income for the carry holder. Unlike the years of paper appreciation before the CV, the crystallized carry represents a genuine taxable event. The GP receives either cash (the carry amount in the transaction), or the GP rolls some or all of that carry into the continuation vehicle as part of the alignment agreement with secondary buyers.

Whole-fund vs. deal-by-deal waterfall matters

Whether carry crystallizes in a CV depends in part on your fund's waterfall structure:

• European (whole-fund) waterfall: All LP capital across all investments must be returned, plus preferred return on all capital, before carry is paid on any position. If the fund has legacy write-downs, the CV asset's gain may first need to cover those before carry flows to the GP. In these funds, a single-asset CV may not produce carry if portfolio-level losses offset the CV asset's gain.
• American (deal-by-deal) waterfall: Carry is computed per deal. The CV asset's gain triggers carry immediately, regardless of other fund positions. Carry crystallization is more reliable and predictable in deal-by-deal structures.

Review your fund's LPA waterfall section before estimating how much carry the CV will produce. The difference between these structures on a $500M portfolio company exit can be $10M–$30M in personal carry at the partner level.

Roll vs. Cash: The Decision for Carry Holders

When carry crystallizes in a CV, you typically have three positions depending on your role and the deal structure:

1. GP entity receives carry; you decide how to deploy it

In the most common structure, the GP entity receives carry proceeds (or the rolled equivalent), and the carry is allocated among individual carry holders per the firm's allocation schedule. As a carry holder, you may individually negotiate (or be offered) the choice to roll your share of carry into the continuation vehicle alongside the GP entity's required roll.

2. Take the cash

You receive your carry share as cash at closing. This is a clean taxable event — see the tax treatment section below. You now have liquidity, a tax obligation, and a reinvestment decision.

3. Roll the carry into the continuation vehicle

Your carry entitlement is reinvested directly into the continuation vehicle as LP capital (or as a new carry award in the CV). The economic structure of this roll — whether you receive LP capital or a new carry interest — matters enormously for both taxes and future economics. These are not equivalent.

Tax Treatment: Taking the Cash-Out

When you receive carry proceeds as cash in a CV transaction, the tax analysis runs through IRC § 1061 — the same rules that apply to any carry distribution from an applicable partnership interest (API).

The § 1061 three-year holding period

Section 1061 recharacterizes net long-term capital gain from an API as short-term capital gain (taxed at ordinary rates, up to 40.8% federal with NIIT) if the underlying capital assets of the fund have been held for three years or less from the date they were acquired by the fund.³

For a CV on a mature portfolio company — say, an investment the fund made in year 3 of a 10-year fund, now being transferred in year 8 — the underlying asset has been held for 5 years. The § 1061 three-year test is easily satisfied, and your carry is long-term capital gain taxed at 23.8% federal (20% LTCG + 3.8% NIIT for high earners).

For a CV on a newer portfolio company — an investment from year 7 being transferred in year 9 — the underlying asset has been held for only 2 years at transfer. Any carry attributable to that asset fails the § 1061 holding period test and is recharacterized to short-term capital gain, taxed at ordinary rates (up to 40.8% combined federal).

State tax considerations on CV carry

Carry received from a CV transaction is subject to state income tax based on sourcing rules. California's FTB sources partnership gains to CA based on where the partnership's assets and operations are located (under apportionment factors), not simply where the GP is domiciled. If the portfolio company being transferred is a California-based business, a portion of the carry may be CA-source income even if you are a Texas or Florida resident at the time of the distribution. New York takes similar sourcing positions.

For partners who have recently changed domicile from California — timing the CV execution relative to the residency change — this is a high-stakes question. A residency change completed before the transfer closing doesn't automatically eliminate CA tax on CA-source income. See the state tax residency guide for the full analysis.

Dollar example: carry crystallization tax math

Assume a Partner receives $3M of carry in a CV transaction on a portfolio company held 6 years by the fund:

• § 1061 holding period satisfied (6 years > 3 years) → LTCG treatment
• Federal LTCG: $3M × 20% = $600K
• Federal NIIT: $3M × 3.8% = $114K
• Total federal: $714K (23.8% effective rate)
• CA state (if CA-sourced): $3M × 13.3% = $399K additional
• After-tax proceeds (CA resident): $3M − $714K − $399K = $1.887M
• After-tax proceeds (TX/FL resident, no state income tax): $3M − $714K = $2.286M

The state sourcing question alone represents a $399K difference on a $3M carry crystallization event. For $10M or $20M carry events, the planning stakes are proportionally higher.

Tax Treatment: Rolling Carry into the New Vehicle

If you roll your carry entitlement into the continuation vehicle rather than taking cash, the tax analysis is more complex — and the IRS has not issued formal guidance specific to GP carry rolls in continuation vehicles. The general framework:

Rolling carry as LP capital into the CV (§ 721 non-recognition)

If the GP entity contributes assets (including cash proceeds from crystallized carry) to the continuation vehicle as an LP capital contribution, IRC § 721 generally provides non-recognition of gain at the time of contribution. Under this structure, the carry holder's cost basis in the new LP interest equals the amount of carry contributed (fair market value at time of contribution), and future gain is deferred until the LP interest is sold or the CV distributes assets.⁴

However, § 721 non-recognition has limits: if the contribution is part of a transaction that is "in substance" an exchange of appreciated property for cash or other consideration, the IRS may re-characterize it as a taxable exchange. The structure of the specific CV — particularly whether there is a disguised-sale risk under § 707(a)(2)(B) — depends on the timing and terms of the contribution and any distributions within two years.

Rolling into a new carry award in the CV

If you roll into a new carried interest (profits interest) in the continuation vehicle — not as LP capital — the tax analysis shifts. Under Rev. Proc. 93-27, a profits interest received for services is generally not taxable at grant if the interest doesn't entitle you to a distribution within two years and the interest is not a "readily tradeable" interest in a publicly traded partnership. A new carry award in the CV at the time of formation should qualify for this non-recognition — but only if the award is structured as a genuine profits interest (no floor, no priority return ahead of the new hurdle).

In this scenario, your old carry crystallizes at the CV closing (taxable at § 1061 rates), and you receive a new profits interest in the CV (no additional tax at grant). The economic effect is carry-for-carry exchange — you gave up the old carry (taxable event), and you receive new carry (non-taxable grant). The net result is you pay tax on the old carry but start fresh in the new vehicle.

New Carry Economics in the Continuation Fund

Whether you roll or receive cash and reinvest, if you hold carry in the continuation vehicle, you're starting with a reset economic structure. Understanding the terms that matter:

The preferred return resets to current NAV

The continuation vehicle's preferred return (typically 8% IRR) is calculated on the capital invested at the CV's formation — which reflects the portfolio company's fair market value at transfer, often well above cost basis. For a portfolio company that has tripled in value since original acquisition, the new preferred return hurdle is set on a cost basis 3× the original. The carry you receive in the CV starts above a much higher bar than carry in the original fund.

The carry clock resets under § 1061

Your carry award in the continuation vehicle starts a new § 1061 three-year clock from the date of grant. But the underlying portfolio company's holding period for § 1061 purposes is measured from when the continuation vehicle acquired the asset — which is the date of the CV transaction, not the original fund's acquisition date. Future carry distributions from the CV will need the CV's assets to have been held for 3 years to achieve LTCG treatment.

This is a planning consideration: if the GP expects the continuation vehicle to exit the asset within 2 years, carry holders may face § 1061 ordinary income treatment on the new carry — even though the economic value was built over many years in the prior fund.

Fund life and management fee dynamics

Continuation vehicles typically have defined fund lives of 3–5 years. Management fees in CVs are often lower than in a blind-pool fund (since there's one known asset, not a portfolio to build), and fee structures are scrutinized by secondary buyers who are providing the new capital. The management company revenue dynamics — and therefore the income available to fund a ManCo S-Corp election, solo 401(k) contributions, or cash balance plan — may differ materially from your operating fund.

Junior Employees and Unvested Carry in a CV

For Associates, VPs, and Principals with unvested carried interest in the fund being transferred to a CV, the situation is distinct from senior partners with fully vested positions.

Unvested carry: what happens?

If your carry award is unvested at the time of the CV transaction, the firm's LPA and your individual carry award agreement control whether your unvested carry participates in the crystallization. Several outcomes are possible:

• Pro-rata participation: Unvested carry participates in the CV transaction on the same terms as vested carry — you receive unvested economic rights in either the cash proceeds or the continuation vehicle, still subject to your original vesting schedule.
• Acceleration: The CV transaction qualifies as an "exit event" under your award agreement, triggering full or partial vesting. If full vesting occurs, you join senior partners in the carry crystallization. This is more common for deal-level carry awards where the CV represents an exit of the specific deal you worked on.
• Termination and replacement: Your unvested carry in the old fund is cancelled, and you receive a new unvested carry award in the continuation vehicle. Economically equivalent on paper, but the § 1061 clock and vesting timeline restart.

§ 83 and unvested carry in a CV

Unvested carried interest is subject to IRC § 83 — property subject to a substantial risk of forfeiture is not included in income until vesting unless you filed a § 83(b) election at grant. Most professionals don't file § 83(b) elections for profits interests because Rev. Proc. 93-27 provides non-taxation at grant anyway. In a CV transaction where unvested carry is cancelled and new unvested carry is issued, the exchange is not automatically a taxable event if the replacement interest has the same fair market value — but this analysis is fact-specific and depends on whether the exchange satisfies Rev. Proc. 93-27 conditions for the new interest.

If you are in this situation, review your original carry award agreement carefully and have a tax advisor review the CV's employee carry treatment section specifically. This is usually covered in the CV's term sheet or closing documents, but junior employees are rarely given adequate time or guidance to review the personal tax implications.

Planning Before Your Firm Runs a CV

Continuation vehicles are not announced far in advance. The period between when the GP starts exploring a CV and when the deal closes can be as short as 90–120 days. Most of the consequential planning decisions close before or at the transaction. Actions worth taking now if your fund has mature assets:

1. Map your current carry exposure by asset and vintage

Which portfolio companies are most likely candidates for a CV process? What is each company's fund-level holding period? If asset A has been in the fund for 2.5 years and asset B for 6 years, a CV on A would produce § 1061 ordinary income on A's contribution to carry, while B would be LTCG. Knowing this in advance lets you model the tax scenarios before you're under time pressure.

2. Confirm your state of domicile and its interaction with CV carry

If you're planning a state residency change from California or New York, timing it before a CV closing matters — but only for the income that is not already CA- or NY-sourced based on the portfolio company's location. Complete your domicile change properly (183-day physical presence, driver's license, voter registration, filing final CA or NY resident return) well before the CV closes. Last-minute residency changes get scrutinized by state revenue departments. See the state tax residency guide for the full mechanics.

3. Review GP commitment obligations in the CV

Will you be expected to make a new GP commitment to the continuation vehicle? Secondary buyers often require the GP entity to commit meaningful capital alongside theirs — and that obligation may cascade to individual partners. If you're also funding GP commitment in a new fund (Fund IV while Fund III runs a CV), the capital call timing may overlap. Model the liquidity requirement before the CV is announced. See the GP commitment calculator and the GP commitment funding strategies guide.

4. Model charitable giving around carry crystallization

A large carry event — whether from a CV cash-out or a cash distribution in the same year — may be the right time to execute a planned charitable strategy. Donating appreciated assets to a donor-advised fund in a high-income year, subject to the OBBBA's 0.5% AGI floor and 35% value cap for 2026, can reduce current-year tax on the CV proceeds. The charitable giving guide covers DAF front-loading and CLAT mechanics in detail.

5. Coordinate with your overall carry portfolio

A CV on Fund III assets crystallizes carry at current valuations. If you're simultaneously holding carry in Fund IV (early stage, unrealized) and Fund V (committed but not deployed), a CV event creates a planning opportunity: use the CV year's realized income for Roth conversion planning, fund a backdoor Roth or cash balance plan, or accelerate deferred comp distributions under a 409A election. The year of CV crystallization is often the highest-income year of a career and deserves dedicated planning attention.

How a Specialist Advisor Helps

A fee-only advisor who works specifically with PE professionals adds value throughout a CV process in ways that a generalist wealth manager and even the firm's fund counsel cannot:

• After-tax carry modeling by asset: Running the § 1061 holding period analysis asset by asset, applying your actual tax situation (state of domicile, other income sources, carryforward losses), and producing a net-proceeds estimate before you decide between cash and roll.
• Roll vs. cash decision analysis: Modeling the future value of both options — after-tax cash reinvested in a diversified portfolio vs. rolled carry in a continuation vehicle with defined exit timeline — accounting for the CV's new preferred return hurdle and your § 1061 exposure on future distributions.
• State sourcing analysis: Engaging with the fund's tax advisors on the sourcing details of the specific CV portfolio company, and modeling the net state tax outcome given your current and planned domicile.
• Coordination with overall wealth plan: A large carry event is often a once-in-a-decade liquidity moment. Integrating the CV proceeds with estate planning, charitable giving, retirement savings, and GP commitment obligations in a single coordinated plan — not addressed in siloed pieces — is where specialist advice pays for itself many times over.
• Reviewing the CV term sheet personally: The firm's counsel represents the GP entity. No one is specifically representing your personal carry interests in the transaction. A financial advisor can help you review the carry treatment section of the CV documents and flag provisions that affect your personal economics — including the roll terms, the new hurdle rate, and the alignment requirements.