Update: June 24, 2015: Amy Wan, the General Counsel of Patch of Land,  pointed out some factual errors in my original article, as well as clarified how the investor collateral works in the new contracts. These issues have been corrected and notated below.

 

For those who might be equally as confused as I was originally, I've included Amy's response to my original article, so you can further understand how this new feature works, as well as understand the reasoning behind the structure.

 

Patch of Land's investor protections have always been in the top tier of all sites. So, I was even more excited to receive an email today from Patch of Land today, announcing the completion of a long promised legal overhaul, to make things even better.

 

B̶u̶t̶ ̶a̶f̶t̶e̶r̶ ̶r̶e̶a̶d̶i̶n̶g̶ ̶i̶t̶,̶ ̶i̶t̶ ̶a̶p̶p̶e̶a̶r̶e̶d̶ ̶t̶o̶ ̶m̶e̶ ̶t̶o̶ ̶b̶e̶ ̶a̶ ̶m̶i̶x̶e̶d̶ ̶b̶a̶g̶.. Here's the recap:

 

The history

 

Last September, attorney Anthony Zeoli had posted a critical critique of an anonymous crowdfunding company's legal agreements,̶ ̶w̶i̶t̶h̶ ̶r̶e̶d̶a̶c̶t̶e̶d̶ ̶e̶m̶a̶i̶l̶s̶ ̶t̶h̶a̶t̶ ̶l̶o̶o̶k̶e̶d̶ ̶a̶n̶ ̶a̶w̶f̶u̶l̶ ̶l̶o̶t̶ ̶l̶i̶k̶e̶ ̶P̶a̶t̶c̶h̶ ̶o̶f̶ ̶L̶a̶n̶d̶.̶

 

Patch of Land's General Counsel, Amy Wan, responded to Zeoli in a second article. She explained why the site was structured the way it was, admitted some things could be improved, and announced that a revamp of the legal agreement was coming "in the next months" as a part of "Patch of Land Offerings v 2.0".

 

So six months later, the revamp has arrived. Here's what it contains:

 

Bankruptcy remote: +1 !

 

One of the advantages of Patch of Land (and sites with a similar model), is that they put "skin in the game", by involving themselves in the transaction. Patch of Land does this by spinning o̶f̶f̶ ̶a̶ ̶n̶e̶w̶ ̶L̶L̶C̶ off an SPE (special purpose entity) f̶o̶r̶ ̶e̶a̶c̶h̶ ̶i̶n̶v̶e̶s̶t̶m̶e̶n̶t̶, which it's responsible for running, and uses to watch over all the investments.

 

For example, rather than giving the borrower all the money upfront, there's usually a schedule of "draws", that slowly pays out the cash as the borrower meets certain milestones. Or if the sponsor/borrower misses a payment, Patch of Land informs investors, and take corrective action. This is far preferable to sites that disappear once the sponsor/borrower raises the money, and lets them do what they please.

 

The downside of this is that if Patch of Land ever goes bankrupt, a key protection would be lost, and the entire status of your investment would be in question. So "bankruptcy remote" means that they have set up an independent third-party company to take over their responsibilities, if this should happen.

 

This is a very nice feature that gives me (and probably many other investors) a sounder sleep at night. They also announced several other changes that supported this feature.

 

Secured notes for investors: -̶1̶  +1 (or at least +.9)
 

One of the criticisms that Zeoli brought up in his initial post, is that a non-sophisticated investor could easily believe that they were investing in a secured note on Patch of Land, when they are not.

 

A secured note is backed by something that the borrower will forfeit, if they default. For example, real estate often is used to secure the note, as well as a personal guarantee from the borrower. With Patch of Land, the loan that the borrower makes to Patch of Land's LLC is secured. But the note that the investor holds with that LLC is not secured. In other words, Patch of Land is protected from default with collateral. We investors are not.

 

Zeoli claimed that this was fairly easy to fix. (I'm not an attorney, so I have no idea, myself). And back in September, Wan of Patch of Land seemed to agree with this, and said that this was going to be changed:

 

Patch of Land has devoted significant time and resources over the past two months to do a complete review and restructuring of legal documents for both borrowers and investors. This includes the restructuring of our notes so that they are directly secured. There are a number of ways to achieve this goal, and we are creating a corporate and note structure to be rolled out in coming months that we feel will give investors greater confidence in their investment.

 

S̶o̶ ̶I̶ ̶w̶a̶s̶ ̶d̶i̶s̶a̶p̶p̶o̶i̶n̶t̶e̶d̶ ̶t̶o̶ ̶s̶e̶e̶ ̶t̶h̶a̶t̶ ̶t̶h̶e̶ ̶n̶e̶w̶ ̶a̶g̶r̶e̶e̶m̶e̶n̶t̶ ̶d̶o̶e̶s̶ ̶n̶o̶t̶ ̶d̶o̶ ̶t̶h̶i̶s̶.̶ ̶I̶n̶ ̶f̶a̶c̶t̶,̶ ̶t̶h̶e̶ ̶s̶u̶m̶m̶a̶r̶y̶ ̶s̶a̶y̶s̶ ̶j̶u̶s̶t̶ ̶t̶h̶e̶ ̶o̶p̶p̶o̶s̶i̶t̶e̶:̶

̶

̶"̶A̶l̶l̶ ̶o̶f̶ ̶o̶u̶r̶ ̶o̶f̶f̶e̶r̶i̶n̶g̶s̶ ̶w̶i̶l̶l̶ ̶n̶o̶w̶ ̶b̶e̶ ̶d̶i̶r̶e̶c̶t̶l̶y̶ ̶s̶e̶c̶u̶r̶e̶d̶ ̶a̶s̶ ̶t̶o̶ ̶a̶ ̶p̶l̶e̶d̶g̶e̶ ̶o̶f̶ ̶c̶o̶l̶l̶a̶t̶e̶r̶a̶l̶ ̶o̶n̶l̶y̶ ̶a̶s̶ ̶t̶o̶ ̶t̶h̶e̶ ̶u̶n̶d̶e̶r̶l̶y̶i̶n̶g̶ ̶b̶o̶r̶r̶o̶w̶e̶r̶ ̶n̶o̶t̶e̶,̶ ̶m̶o̶r̶t̶g̶a̶g̶e̶ ̶a̶n̶d̶ ̶r̶e̶l̶a̶t̶e̶d̶ ̶c̶a̶s̶h̶ ̶f̶l̶o̶w̶s̶ ̶t̶o̶ ̶t̶h̶e̶ ̶t̶r̶u̶s̶t̶e̶e̶.̶ ̶T̶o̶ ̶b̶e̶ ̶c̶l̶e̶a̶r̶,̶ ̶t̶h̶e̶ ̶c̶o̶l̶l̶a̶t̶e̶r̶a̶l̶ ̶i̶s̶ ̶n̶o̶t̶ ̶p̶l̶e̶d̶g̶e̶d̶ ̶d̶i̶r̶e̶c̶t̶l̶y̶ ̶t̶o̶ ̶a̶n̶ ̶i̶n̶v̶e̶s̶t̶o̶r̶ ̶a̶s̶ ̶a̶ ̶h̶o̶l̶d̶e̶r̶ ̶o̶f̶ ̶t̶h̶e̶ ̶b̶o̶r̶r̶o̶w̶e̶r̶ ̶p̶a̶y̶m̶e̶n̶t̶ ̶d̶e̶p̶e̶n̶d̶e̶n̶t̶ ̶n̶o̶t̶e̶,̶ ̶b̶u̶t̶ ̶i̶s̶ ̶i̶n̶s̶t̶e̶a̶d̶ ̶p̶l̶e̶d̶g̶e̶d̶ ̶t̶o̶ ̶a̶n̶ ̶i̶n̶d̶e̶n̶t̶u̶r̶e̶ ̶t̶r̶u̶s̶t̶e̶e̶ ̶u̶n̶d̶e̶r̶ ̶w̶h̶i̶c̶h̶ ̶i̶n̶v̶e̶s̶t̶o̶r̶s̶ ̶b̶e̶n̶e̶f̶i̶t̶ ̶a̶s̶ ̶a̶ ̶n̶o̶t̶e̶ ̶h̶o̶l̶d̶e̶r̶.̶"̶

̶

̶N̶o̶t̶e̶:̶T̶h̶e̶ ̶i̶n̶d̶e̶n̶t̶u̶r̶e̶ ̶t̶r̶u̶s̶t̶e̶e̶ ̶i̶s̶ ̶t̶h̶e̶ ̶b̶a̶n̶k̶r̶u̶p̶t̶c̶y̶ ̶r̶e̶m̶o̶t̶e̶ ̶c̶o̶m̶p̶a̶n̶y̶.̶

̶

̶S̶o̶ ̶d̶o̶e̶s̶ ̶t̶h̶i̶s̶ ̶m̶e̶a̶n̶ ̶t̶h̶a̶t̶ ̶i̶n̶v̶e̶s̶t̶o̶r̶ ̶c̶o̶l̶l̶a̶t̶e̶r̶a̶l̶i̶z̶a̶t̶i̶o̶n̶ ̶i̶s̶ ̶o̶f̶f̶ ̶t̶h̶e̶ ̶t̶a̶b̶l̶e̶?̶ ̶O̶r̶ ̶i̶s̶ ̶i̶t̶ ̶c̶o̶m̶i̶n̶g̶ ̶i̶n̶ ̶t̶h̶e̶ ̶f̶u̶t̶u̶r̶e̶?̶ ̶I̶'̶v̶e̶ ̶i̶n̶v̶i̶t̶e̶d̶ ̶P̶a̶t̶c̶h̶ ̶o̶f̶ ̶L̶a̶n̶d̶ ̶t̶o̶ ̶r̶e̶s̶p̶o̶n̶d̶,̶ ̶a̶n̶d̶ ̶w̶i̶l̶l̶ ̶p̶o̶s̶t̶ ̶b̶a̶c̶k̶ ̶w̶h̶a̶t̶ ̶t̶h̶e̶y̶ ̶s̶a̶y̶.̶

 

The new version of the contract doesn't exactly directly secure investors. Instead, it indirectly secures them, through a third-party trustee, to whom the collateral is pledged, and who takes over should Patch of Land go bankrupt. 

 

If that sounds complicated, it's because it is (at least to me, as a non-attorney). What does that mean and what's the bottom line? Thankfully, Zeoli summarized the new contract like this:

 

 This is a significant improvement in terms of making these loans less risky for investors. I mean which do you think is riskier: a completely unsecured loan or a loan secured (albeit it indirectly) by a mortgage on real estate?

 

Both Patch of Land and the trustee bank (UMB Bank) would have to go bankrupt, to leave the investor in a lurch. That is probably extremely unlikely, and a nice additional protection for investors.

 

For those interested in the nitty-gritty, Zeoli also dug into it and explained it in his analysis here. Additionally, he made this critique of the complexity of the structure:

 

Is the structure perfect? No. As I said, the steps are somewhat convoluted and it honestly takes a lawyer to follow the steps outlined by the documentation. 

 

In her response to this original article, Wan of Patch of Land, explains the company's position on the reasoning behind the structure (including protection of investor privacy). 

 

You can read Wan's response on behalf of Patch of Land to this article here.

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The full Patch of Land announcement can be read here.