Credit Transaction Reviewer

INTRODUCTIONMEANING AND SCOPE OF CREDIT TRANSACTIONS Credit transactions include all transactions involving the purchase or loan of goods, services, or money in the present with a promise to pay or deliver in the future. TWO TYPES OF CREDIT TRANSACTIONS/ CONTRACTS OF SECURITY

1. Secured transactions or contracts of real security supported by a collateral or anencumbrance of property

2. Unsecured transactions or contracts of personal security fulfillment by the debtor issupported only by a promise to pay or the personal commitment of another EXAMPLES OF CREDIT TRANSACTIONS 1. Bailment contracts 2. Contracts of guaranty and suretyship 3. Mortgage 4. Antichresis 5. Concurrence and preference of credits MEANING OF SECURITY Security (def). Something given, deposited, or serving as a means to ensure the fulfillment or enforcement of an obligation or of protecting some interest in property. KINDS OF SECURITY

1. Personal Security - when an individual becomes a surety or a guarantor 2. Property or Real Security when a mortgage, pledge, antichresis, charge, or lien or otherdevice used to have property held, out of which the person to be made secure can be compensated for loss. BAILMENT Bailment (def). The delivery of property of one person to another in trust for a specific purpose, with a contract, that the trust shall be faithfully executed and the property returned or duly accounted for when the special purpose is accomplished or kept until the bailor reclaims it. To be legally enforceable, a bailment must contain all the elements of a valid contract, which are consent, object, and cause or consideration. However, a bailment may also be created by operation of law. PARTIES IN BAILMENT

1. Bailor the giver; the one who delivers the possession of the thing bailed2. Bailee therecipient; the one who receives the possession or custody of the thing delivered KINDS OF BAILMENT 1. For the sole benefit of the bailor Examples: gratuitous deposit and mandatum (bailment of goods where the bailee gratuitously undertakes to do some act with respect to the property)

Sheryl IID 2002 PAGE 1

Ex. My tito from the States makes padala a balikbayan box filled with spam through another relative whos flying to the Philippines on vacation. It only benefits my tito (the bailor). Or, Helen deposits Polscis baby chair with the mysterious little guy who doesnt smile in the bag depository counter outside the lib. In this case, only Helen benefits (based on a true story). 2. For the sole benefit of the bailee Examples: commodatum and gratuitous simple loan or mutuum Ex. Xilca borrows my white blouse because she forgot to bring clothes to change from her Pasay City Jail outfit. Only Xilca is benefited, not me. Or, Xilca borrows P10 from me without interest. 3. For the benefit of both parties Examples: deposit for a compensation, involuntary deposit, pledge, bailments for hire Ex. Ansky pawns her huge diamond earrings at Villarica Pawnshop. The pawnshop gives her P10,000 and a pawn ticket. Both parties benefit Ansky gets fast cash, while the pawnshop gets to keep the huge diamond earrings to make sure that Ansky pays, and in case she doesnt they can sell the earrings. 1 and 2 are gratuitous bailments. There is no consideration because they are considered more as a favor by one party to the other. Bailments under number 3 are mutual-benefit bailments, and they usually result from business transactions. BAILMENT FOR HIRE Bailment for hire arises when goods are left with the bailee for some use or service by him always for some compensation. KINDS OF BAILMENT FOR HIRE

1. Hire of things goods are delivered for the temporary use of the hirer2. Hire of service goods are delivered for some work or labor upon it by the bailee3. Hire forcarriage of goods goods are delivered either to a common carrier or to a private person for the purpose of being carried from place to place 4. Hire of custody goods are delivered for storage

I. LOAN GENERAL PROVISIONSArt. 1933. By the contract of loan, one of the parties delivers to another, either something not consumable so that the latter may use the same for a certain time and return it, in which case the contract is called a commodatum; or money or other consumable thing, upon condition that the same amount of the same kind and quality shall be paid, in which case the contract is simply called a loan or mutuum. Commodatum is essentially gratuitous. Simple loan may be gratuitous or with a stipulation to pay interest. In commodatum the bailor retains the ownership of the thing loaned, while in simple loan, ownership passes to the borrower. Art. 1934. An accepted promise to deliver something by way of commodatum or simple loan is binding upon the parties, but the commodatum or simple loan itself shall not be perfected until the delivery of the object of the contract.


ESSENTIAL ELEMENTS OF A CONTRACT IN THE CONTEXT OF A LOAN Consent of the parties Borrower and Lender Object Property Cause or Consideration For the lender: right to demand the return of the thing For the borrower: acquisition of the thing CHARACTERISTICS OF THE CONTRACT OF LOAN

1. A real contract the delivery of the thing loaned is necessary for the perfectionof the contract

2. A unilateral contract once the subject matter has been delivered, it createsobligations on the part of only one of the parties (the borrower) CAUSE OR CONSIDERATION IN A CONTRACT OF LOAN 1. As to the borrower: the acquisition of the thing 2. As to the lender: the right to demand its return or of its equivalent KINDS OF LOAN

1. Commodatum where the lender delivers to the borrower a non-consumable thingso that the latter may use it for a certain time and return the identical thing

2. Simple loan or mutuum where the lender delivers to the borrower money orother consumable thing upon the condition that the latter shall pay the same amount of the same kind and quality. LOANS DISTINGUISHED FROM CREDIT Credit means the ability of an individual to borrow money or things by virtue of the confidence or trust reposed by a lender that he will pay what he may promise within a specified period. Loan means the delivery by one party and the receipt by the other party of a given sum of money or other consumable thing upon an agreement to repay the same amount of the same kind and quality, with or without interest. The concession of a credit necessarily involves the granting of loans up to the limit of the amount fixed in the credit. As opposed to debt, credit is a debt considered from the creditors standpoint. It is that which is due to any person.


DISTINCTIONS BETWEEN COMMODATUM AND SIMPLE LOAN COMMODATUM SIMPLE LOAN SUBJECT MATTER Not consumable Money or other consumable thing OWNERSHIP Retained by the lender Transferred to the borrower GRATUITOUS? Gratuitous Default rule is that it is gratuitous BUT the parties may stipulate interest, in which case, it becomes onerous PAYMENT BY BORROWER Borrower must return the samething loaned Borrower need only pay the same amt of the same kind and qual ity KIND OF PROPERTY Real or personal Personal only PURPOSE Temporary use or possession Consumption WHEN LENDER MAY DEMAND Lender may demand return of the thing before the expiration of the term in case of urgent need LOSS OF THE THING Suffered by the lender (since he is the owner)Lender may not demand return of the thing before the lapse of the term agreed upon Suffered by the borrower even if through fortuitous event In commodatum, if you do not return the thing when it is due, you will be liable for estafa because ownership of the property is not transferred to the borrower. In loan, the borrower who does not pay is not criminally liable for estafa. His liability is only a civil liability for the breach of the obligation to pay. This is because in loan, ownership of the thing is transferred to the borrower, so there is no unlawful taking of property belonging to another. ACCEPTED PROMISE TO MAKE A FUTURE LOAN Borrower goes to Lender and asks if he could borrow P10K at 6% interest per annum. Lender says okay, I will lend you the money. This is an accepted promise to make a future loan. It is a consensual contract and is binding upon the parties. But is there a contract of loan at this point? No, because loan is a real contract and is perfected only upon delivery of the thing. FORM OF LOAN There are no formal requisites for the validity of a contract of loan except if there is a stipulation for the payment of interest. A stipulation for the payment of interest must be in writing.

CHAPTER 1 COMMODATUMArt. 1935. The bailee in commodatum acquires the use of the thing loaned but not its fruits; if any compensation is to be paid by him who acquires the use, the contract ceases to be a commodatum. KINDS OF COMMODATUM

1. Ordinary commodatum 2. Precarium one whereby the bailor may demand the thing loaned at will


NATURE OF COMMODATUM Commodatum in simple terms is hiram A agrees to lend his guard dog to his friend B for a week for free. B is entitled to use the dog for this period. At the end of the week, B must return the dog to A. If the dog gives birth while it is in the custody of B, the puppies (fruits) belong to A.

1. The bailee acquires the use of the thing but not its fruits, unless there is a stipulationto the contrary.

2. It is essentially gratuitous. 3. The purpose of the contract is the temporary use of the thing loaned for a certaintime. (So if the bailee is not entitled to use the thing, it is not commodatum but it may be a deposit.)

4. The subject matter is generally non-consumable real or personal property,though consumable goods may also be the subject of commodatum if the purpose is not the consumption of the object (ex. Display of a bottle of wine).

5. The lender need not be the owner of the thing loaned. It is enough that he haspossessory interest in the thing or right to use it which he may assert against the bailee and third persons though not against the rightful owner. (Ex. A lessee may sublet the thing leased).

6. It is purely personal in character. The consequences of this are the following: a. The death of either party extinguishes the contract unless there is acontrary stipulation for the commodatum to subsist until the purpose is accomplished

b. The borrower cannot lend or lease the thing to a third person. However,members of the borrowers household may make use of the thing loaned except: i. if there is a stipulation to the contrary; or ii. if the nature of the thing forbids it.

7. The parties may stipulate that the borrower may use the fruits of the thing, but thismust only be incidental to the use of the thing itself (because if it is the main cause, the contract may be one of usufruct). OBLIGATIONS OF THE BORROWER

1. Liability for ordinary expenses The borrower should defray the expenses for theuse and preservation of the thing loaned.

2. Liability for loss of the thing The general rule is the borrower is not liable forloss or damage due to a fortuitous event. The owner bears the loss. But in the following cases, the borrower is liable for loss through a fortuitous event:

a. if he devotes the thing to a purpose different from that for which it was loaned(bad faith) this is a breach of the tenor of the obligation

b. if he keeps it longer than the period stipulated or after the accomplishment ofthe use for which the commodatum has been constituted (delay )

c. if the thing loaned has been delivered with appraisal of its value unlessthere is a stipulation exempting the bailee from responsibility in case of a fortuitous event this is equivalent to an assumption of risk;Sheryl IID 2002 PAGE 5

d. if he lends or leases the thing to a third person who is not a memberof his household also a breach of the tenor of the obligation;

e. if, being able to save either the thing borrowed or his own thing, he chose tosave his own (ingratitude).

3. Liability for deterioration of the thing - The borrower is not liable for the ordinarydeterioration or wear and tear of the thing that comes as a natural consequence of its use. This is borne by the lender. Reason: Because the lender retains ownership so he should bear the loss from ordinary deterioration. Also, because the purpose of commodatum is for the borrower to use the thing. Deterioration is a natural result of such use.

4. Obligation to return the thing loaned The borrower must return the thing as soonas the period stipulated expires or the purpose has been accomplished. He cannot keep the thing as security for anything that the lender may owe him, except for a claim for damages suffered because of the flaws of the thing loaned. So for example, Xilca earlier won a bet with Cayo, as a result of which, Cayo owes her a tuna sandwich. Cayo loaned Alvin Angs Frisbee to Xilca for 10 days. At the end of the 10 days, Xilca cannot refuse to return Alvin Angs frisbee to Cayo and hold it hostage until Cayo delivers the sandwich. Why? Because Xilcas obligation as a borrower is to return the thing after the period expires, and she cannot keep it as a security for anything that Cayo may owe her. Or, Xilca borrows Kim Chongs car for 10 days. While the car is in Xilcas possession, a tire explodes. Xilca has to buy a new tire for P3,000. At the end of the 10 days, Xilca refuses to return the car unless Kim Chong pays her the P3,000. Can Xilca refuse to return? No. In this case, Kim Chong owes Xilca P3,000 as an extraordinary expense for the preservation of the thing. But even if Kim Chong owes Xilca money in connection with the thing that he loaned, Xilca still cannot retain the car as security. Exception: If the thing loaned has hidden defects and the borrower suffers damages as a result of the hidden defect, the borrower can claim damages against the lender. Pending payment of the damages by lender to borrower, borrower can keep the thing as a security. (see discussion below)

5. Liability of two or more bailees When there are two or more borrowers to whom athing is loaned in one contract, there liability is solidary . OBLIGATIONS OF THE LENDER

1. Obligation to respect the duration of the loan The lender cannot demand thereturn of the thing until after the expiration of the period or after the accomplishment of the use for which the commodatum was constituted. However, he may demand its return or temporary use if he should have urgent need of the thing.

2. Precarium Precarium is a kind of commodatum where the lender may demand thething at will. Precarium exists in the following cases: a. If there is no stipulation as to the duration of the contract or to the use to which the thing loaned should be devoted b. If the use of the thing is merely tolerated by the lender

BUT, the lender may not demand the thing capriciously, arbitrarily, or whimsically, since this would give rise to an action on the part of borrower for abuse of right under Articles 19, 20, and 21.Sheryl IID 2002 PAGE 6

3. Right to demand return of thing for acts of ingratitude If the borrower commitsany of the acts enumerated in Art. 765 of the Civil Code, the lender may demand the immediate return of the thing from the borrower. (This applies to ordinary commodatum, since in precarium the lender can demand at will, subject to the provisions against abuse of right) 4. Obligation to refund extraordinary expenses

a. Extraordinary expenses for the preservation of the thing The lendershould refund the borrower the extraordinary expenses for the preservation of the thing, provided that the borrower informs the lender before incurring the expense, unless the need is so urgent that the lender cannot be notified without danger.

b. Extraordinary expenses arising from actual use of the thing Extraordinary expenses arising on the occasion of the actual use of the thing shall be borne by the lender and borrower on a 50-50 basis, unless there is a contrary stipulation. 5. All other expenses are for the account of the borrower.

6. Liability for damages for known hidden flaws - Requisites: (F-HADD) a. There is a flaw or defect in the thing loaned;b. The flaw or defect is hiddenc. The lender is aware of the flawd. The lender does not advise the borrower of the flawe. Theborrower suffers damages by reason of the flaw or defect The lender is penalized for his failure to disclose a hidden flaw which causes damage because he is in a position to prevent the damage from happening. (HOT TIP) Example: Borrower borrows a 1970 Mitsubishi Lancer from Lender. Unfortunately, Lender forgets to tell borrower that the car has a tendency to overheat after 10 minutes. So Borrower drives, and after 10 minutes, the car stalls and overheats. Borrower opens the hood and sees lots of steam. He opens the radiator cap to put water inside. Radiator water scalds his face, and he suffers from burns. Can he claim damages from Lender and can he keep the car as security? No, because in this case, Buyer should have known. He was, at least, in a position to know that the car just might be prone to overheating since it was old already. And when he opened the hood and saw lots of steam, he should have known that if he opened the radiator, very hot water would spray out. He should have taken precautions when he opened the hood or he should have gone to a gas station or mechanic to have it fixed. But since he was negligent, he has only himself to blame for the damage caused. The defect was not really hidden since Borrower was in a position to know of it even if Lender did not inform him. Had he been more careful, he would not have been scalded. ABANDONMENT OF THING BY THE LENDER Can the lender tell Borrower: I dont want to pay for the extraordinary expenses and damages that I owe you. Just keep the thing, and lets forget about my obligation. No. The lender cannot exempt himself from the payment of the expenses or damages by

abandoning the thing to the borrower. This is because the expenses and damages may exceed the value of the thing loaned, and it would, therefore, be unfair to allow the lender to just abandon the thing instead of paying for the expenses and damages.


CHAPTER 2 SIMPLE LOAN OR MUTUUMDEFINITION Simple loan (def). A contract whereby one of the parties delivers to another money or other consumable thing with the understanding that the same amount of the same kind and quality shall be paid. A simple loan involves the payment of the equivalent and not the identical thing because the borrower acquires ownership of the thing loaned. The term return is not used since the distinguishing character of the simple loan from commodatum is the consumption of the thing. CONSIDERATION What is the consideration in this kind of contract? The promise of the borrower to pay is the consideration for the obligation of the lender to furnish the loan . NO CRIMINAL LIABILITY FOR ESTAFA FOR FAILURE TO PAY There is no criminal liability for failure to pay a simple loan because the borrower acquires ownership of the thing. FUNGIBLE AND CONSUMABLE THINGS Fungible things (def). Those which are usually dealt with by number, weight, or measure, so that any given unit or portion is treated as the equivalent of any other unit or portion. Those which may be replaced by a thing of equal quality and quantity. (ex. Rice, oil, sugar). If it cannot be replaced with an equivalent thing, then it is non-fungible. Consumable things (def). Those which cannot be used without being consumed. Whether a thing is consumable or not depends upon its nature. Whether a thing is fungible or not depends on the intention of the parties. BARTER Barter (def). A contract where one of the parties binds himself to give one thing in consideration of the others promise to give another thing. (in short, exchange of property) If one person agrees to transfer the ownership of non-fungible things to another with the obligation on the part of the latter to give things of the same kind, quantity, and quality, the contract is a contract of barter. DISTINCTIONS BETWEEN MUTUUM, COMMODATUM, AND BARTER MUTUUM COMMODATUM BARTER SUBJECT MATTER Money or other fungiblethings Non-fungible things Non-fungible things OBLIGATION OF BORROWERReturn the equivalent Return equivalent THE the identical thing borrowedReturn the GRATUITOUS? May be gratuitous or onerousAlways gratuitous Onerous


FORM OF PAYMENT

1. If the object is money Payment must be made in the currency stipulated;otherwise it is payable in the currency which is legal tender in the Philippines. According to Art. 1955, Art. 1250, is applicable in payments of loans. 1250 provides that in case of extraordinary inflation or devaluation, the value of the currency at the time of the establishment of the obligation (not at the time of payment) should be the basis for payment. BUT JPSP thinks that this is rarely applied because it would create a bad precedent and would wreak havoc on the economy. It would also shift the loss to the lender, which shouldnt be the case since the loan is primarily for the benefit of the borrower. So unless theres a drastic economic situation, we shouldnt adjust the value of the currency. The obligation should be paid based on the value of the currency at the time of payment. Ex: In 2000, Borrower borrowed $1,000 from Lender at the peso-dollar exchange rate of P50$1, payable in 2004. In 2004, FPJ becomes President, and as a result, the rate becomes P60$1. If the parties had agreed that payment would be in dollars, Borrower still has to pay $1,000. If the parties had agreed that payment would be in pesos, Borrower should pay at the rate of P60 to a dollar, or P60,000. Why? You cannot apply 1250 and base the amount due on the value of the currency in 2000 because the inflation is not so extraordinary as to warrant the adjustment.

2. If the object is a fungible thing other than money Borrower must pay lenderanother thing of the same kind, quality, and quantity. In case it is impossible to do so, the borrower shall pay its value at the time of the perfection of the loan. Why does the law require that the value of the thing be based on its value at the time of the perfection of the loan? Theres a historical explanation: the rule was created at a time when there were still interest ceilings. Thus, the reason for requirement is to prevent circumvention of the interest ceilings. Even if there are no longer any interest ceilings, this rule is still applicable. So how do you opt out of it? Stipulate! Put a stipulation that says that if it is impossible to pay a thing of the same kind, quality, and quantity, borrower shall pay the market value of the thing at the time of payment. INTEREST Requisites for Recovery of Interest:

1. The payment of interest must be expressly stipulated.2. in writing [3. And theinterest must be lawful (but since there is no Usury Law anymore, then there is no such thing as unlawful interest, so I dont think this requisite is still included)] There is no Usury Law anymore, but an interest rate may still be struck down for being unconscionable. The test of an unconscionable interest rate is relative and there is a need to look at the parity/disparity in the status of the parties and in their access to information during the negotiations. Stipulation of interest 1. The interest rate stipulated by the parties, not the legal rate of interest, is applicable. 2. Default rule: If the parties do not stipulate an interest rate, the legal rate for

loans and forbearances of money is 12%.


For other sources of obligations, such as sale, and damages arising from injury to persons and loss of property which do not involve a loan, the legal rate of interest is 6%. 3. Increases in interest must also be expressly stipulated. 4. It is only in contracts of loan, with or without security, that interest may be stipulated and demanded. 5. Stipulation of interest must be mutually agreed upon by the parties and may not be unilaterally increased by only one of the parties. This would violate consensuality and mutuality of contract (PNB v. CA). But the parties can agree upon a formula for determining the interest rate, over which neither party has control (ex: interest will be adjusted quarterly at a rate of 3% plus the prevailing 91-day T-bill rate, etc.). But if the formula says interest will be based on T-bill rates and other interest-setting policies as the bank may determine, this is not valid. Escalation Clause A clause which authorizes the automatic increase in interest rate. An escalation clause is valid when it is accompanied by a De-Escalation Clause. A deescalation clause is a clause which provides that the rate of interest agreed upon will also be automatically reduced. There must be a specified formula for arriving at the adjusted interest rate, over which neither party has any discretion. When the borrower is liable for interest even without a stipulation:

1. Indemnity for damages The debtor in delay is liable to pay legal interest asindemnity for damages even without a stipulation for the payment of interest. Where to base the rate of damages: a. Rate in the penalty clause agreed upon by the parties b. If there is no penalty clause, additional interest based on the regular interest rate of the loan c. If there is no regular interest, additional interest is equivalent to the legal interest rate (12%) Example: Lender lends P10K at 10% interest with penalty interest of 6%. On due date, Borrower fails to pay. Borrower only pays a year after. How much should he pay? Borrower should pay the principal + interest on the loan + penalty interest = 10K + 10% of 10K + 6% of 10K = 10K + 1K + .6K = 11,600 Lender lends P10K at 10% interest. On due date, Borrower fails to pay. Borrower only pays a year after. How much should he pay? Borrower should pay 10K + 10% of 10K (interest on the loan) + 10% of 10K (penalty interest) = 10K + 1K + 1K = 12,000 The penalty interest in this case is 10% since there is no penalty interest stipulated. The additional interest is based on the regular interest of the loan. Lender lends P10K, no interest. On due date, Borrower fails to pay. How much should Borrower pay a year later?

Borrower should pay P10K + 12% of P10K = 11,200. The penalty interest is 12% since there is no interest on the loan nor a penalty interest stipulated. The extra interest is based on the legal rate of interest.Sheryl IID 2002 PAGE 10

2. Interest accruing from unpaid interest Interest due shall earn interest from thetime it is judicially demanded although the obligation may be silent on this point (Art. 2212.) If interest is payable in kind: If interest is payable in kind, its value shall be appraised at the current price of the products or goods at the time and place of payment. Take note that you should not confuse this with the rule when the principal obligation consists of goods other than money. If the principal obligation consists in the payment of goods and it is impossible to deliver the goods, the borrower should pay the value of the thing at the time of the constitution of the obligation. But if interest is payable in kind, it should be appraised at its value at the time of payment. General Rule: Accrued interest shall not earn interest Exceptions: 1. When judicially demanded (Art. 2212) 2. Express stipulation Also called compounding interest where the parties agree that accrued interest shall be added to the principal and the resulting total amount shall earn interest. A stipulation as to compounding interest must be in writing. How does compounding interest work? Lender lends P100,000 payable in 2 years at 10% interest compounded per annum. At the end of the first year, how much is due? Principal plus 10% interest = 110,000. On the second year, the 110,000 becomes the new principal amount and it is what will earn the 10% interest. So at the end of the second year, how much is due? 110,000 + 10% of 110,000 = 110,000 + 11,000 = 121,000 In compounding interest, you add the unpaid interest to the principal. The resulting amount is your new principal which will then earn interest again. What if the borrower pays interest when there is no stipulation providing for it? If the debtor pays unstipulated interest by mistake , he may recover, since this is a case of solutio indebiti or undue payment. But if the debtor voluntarily pays interest (either unstipulated or stipulated by not in writing) because of some moral obligation, he cannot later recover. The obligation to return the interest is a natural obligation.

II. GUARANTY AND SURETYSHIP CHAPTER 1 NATURE AND EXTENT OF GUARANTYArt. 2047. By guaranty a person, called the guarantor, binds himself to the creditor to fulfill the obligation of the principal debtor in case the latter should fail to do so.


If a person binds himself solidarily with the principal debtor, the provisions of Section 4, Chapter 3, Title 1 of this Book shall be observed. In such case the contract is called a suretyship. Guaranty (def.) A contract whereby the guarantor binds himself to the creditor to fulfill the obligation of the principal debtor in case the latter should fail to do so. In a contract of guaranty, the parties are the guarantor and the creditor. Characteristics of the Contract of Guaranty (A-SC-U-D)

1. A ccessory: It is dependent for its existence upon the principal obligation guaranteedby it.

2. S ubsidiary and Conditional: It takes effect only when the principal debtor failsin his obligation.

3. U nilateral:a. It gives rise to obligations on the part of the guarantor in relation to the creditor and not vice-versa. (Although after its fulfillment, the principal debtor should indemnify the guarantor, but this obligation is only incidental) b. It may be entered into even without the intervention of the principal debtor.

4. D istinct Person: It requires that the person of the guarantor must be distinctfrom the person of the principal debtor (you cannot guaranty your own debt). However, in a real guaranty, a person may guarantee his own obligation with his own properties. Classification of Guaranty 1. In the broad sense:

a. personal: the guaranty is the credit given by the person whoguarantees the fulfillment of the principal obligation (guarantor)

b. real: the guaranty is property. If the guaranty is immovable property: realmortgage or antichresis; If the guaranty is movable property: pledge or chatter mortgage 2. As to origin:

a. conventional: by agreement of the parties b. legal: imposed by law c. judicial: required by a court to guarantee the eventual right of one of theparties in a case 3. As to consideration:

a. gratuitous: the guarantor does not receive anything for acting as guarantor b. onerous: the guarantor receives valuable consideration for acting as guarantor4. As to the person guaranteed:

a. single: constituted solely to guarantee or secure performance of theprincipal obligation


b. double or sub-guaranty: constituted to secure fulfillment of a priorguaranty; guarantees the obligation of a guarantor 5. As to scope and extent:

a. definite: limited to the principal obligation only or to a specific portion thereof b. indefinite or simple: includes not only the principal obligation but alsoall its accessories, including judicial costs. Second Paragraph of Art. 2047: Suretyship If a person binds himself solidarily with the principal debtor, it is a contract of suretyship. The guarantor is called a surety. Suretyship is governed by Articles 1207 to 1222 of the Civil Code on solidary obligations. Suretyship dispenses with certain legal requirements/conditions precedent for proceeding against a guarantor. What is the difference between passive solidarity (solidarity among debtors) and suretyship? Review of oblicon: According to Tolentino, the two are similar in the following ways:

1. A solidary debtor, like a surety, stands for some other person. 2. Both debtor and surety, after payment, may require that they be reimbursed.The difference is that the lender cannot go after the surety right away. There has to be default on the part of the principal debtor before the surety becomes liable. If it were mere solidarity among debtors, the creditor can go after any of the solidary debtors on due date. Nature of a Suretys Undertaking

1. Contractual and Accessory BUT Direct: The contractual obligation of the surety ismerely an accessory or collateral to the obligation contracted by the principal. BUT, his liability to the creditor is direct, primary, and absolute.

2. Liability is limited by the terms of the contract: The extent of a suretysliability is determined only by the terms of the contract and cannot be extended by implication.

3. Liability arises only if principal debtor is held liable: If the principal debtor and thesurety are held liable, their liability to pay the creditor would be solidary. But, the surety does not incur liability unless and until the principal debtor is held liable. a. A surety is bound by a judgment against the principal even though the party was not a party to the proceedings. b. The creditor may sue, separately or together, the principal debtor and the surety (since they are solidarily bound). c. Generally, a demand or notice of default is not required to fix the suretys liability. d. An accommodation party (one who signs an instrument as maker, drawer,

acceptor, or indorser without consideration and only for the purpose of lending his name) is, in effect, a surety. He is thus liable to pay the holder of the instrument, subject to reimbursement from the accommodated party.


Example: Tuks accommodates Shak so that he can obtain a loan from the bank. At the bottom of the loan agreement, the following signatures appear: (sgd) Tuks (sgd) Shak Lino Chris Kapunan Sherwin Shakramy Is Tuks a surety or a solidary debtor? According to JPSP, based on this document above, Tuks is a solidary debtor. Remember the rule? I promise to pay signed by two parties = solidary. To make sure that hes merely a guarantor or surety, Tuks should sign a separate guaranty agreement. Besides, a guaranty must be express. It is not presumed. e. A surety bond is void where there is no principal debtor.

4. Surety is not entitled to exhaustion: A surety is not entitled to the exhaustionof the properties of the principal debtor since the surety assumes a solidary liability for the fulfillment of the principal obligation.

5. The undertaking is to the CREDITOR, not to the principal debtor: The debtorcannot claim that the surety breached its obligation to pay for the principal obligation because there is no obligation as between the surety and the debtor. If the surety does not pay, the principal debtor is still not relieved of his obligation. Guaranty Distinguished from Suretyship: GUARANTY SURETYSHIP Guarantor promises to answer for the debt, default or miscarriage of the principalSurety promises to answer for the debt, default or miscarriage of the principal (same) Liability of the guarantor depends upon an The engagement of the guarantor is a independent agreement to pay the collateral undertakingSurety assumes obligation if the primary debtor fails to do so liability as a regular party to the undertaking Surety is charged as an original promisor The guarantor is secondarily liable A surety is primarily liable MAIN DIFFERENCE: A surety undertakes to pay if the principal does not pay (insurer of the debt). A guarantor binds himself to pay if the principal cannot pay (insurer of the solvency of the debtor). Since the obligation of the surety is to pay so long as the principal does not pay (even if he can; even if he is solvent), the undertaking of the surety is more onerous than that of a guarantor who pays only in the event that the principal is broke. Illustration: A borrows P10,000 from B, with C agreeing to be the surety. A refuses to pay B out of spite. In this case, since C is a surety, B can immediately demand payment from C. If, in this case, C is a guarantor instead, B would have to exhaust all the property of A before he can collect from C. it is not enough that A refuses to pay even if he can; in order for C to be liable, A would have to be unable to pay. If you were a lender and the borrower offers as security either X as guarantor or

a real estate mortgage, which one would you choose? Choose the mortgage. If you were the lender, a real estate mortgage is more advisable because you can collect against the property. In a guaranty/surety, you would have to go against the guarantor or


surety you would have to sue him, obtain judgment, and then execute judgment. This is subject to a lot of delays. The guarantor or surety can stall your claim. Art. 2048. A guaranty is gratuitous, unless there is a stipulation to the contrary. GENERAL RULE: Guaranty is gratuitous. EXCEPTION: Guaranty is onerous only if it is stipulated. What is the cause/consideration of a contract of guaranty? The cause of a contract of guaranty is the same cause which supports the principal obligation of the principal debtor. There is no need for an independent consideration in order for the contract of guaranty to be valid. The guarantor need not have a direct interest in the obligation nor receive any benefit from it. It is enough that the principal obligation has consideration. Art. 2049 A married woman may guarantee an obligation without the husbands consent, but shall not thereby bind the conjugal partnership, except in cases provided by law. Art. 94 of the Family Code The absolute community of property shall be liable for: (3) Debts and obligations contracted by either spouse without the consent of the other to the extent that the family may have been benefited. A married woman who acts as guarantor without the consent of the husband binds only her separate property unless the debt benefited the family. There is no express prohibition against a married woman acting as guarantor for her husband. Remember that now, in order to bind the absolute community, the consent of both spouses is needed. If only the consent of one spouse is obtained, the absolute community will not be liable unless the obligation redounded to the benefit of the community. When the husband acts as a guarantor for another person without the consent of the wife, the guaranty binds only the husband since the benefit really accrues to the principal debtor and not to the husband or his family. The exception is if the husband is really engaged in the business of guaranteeing obligations because in this case, his occupation or business is deemed to be undertaken for the benefit of the family. Art. 2050. If a guaranty is entered into without the knowledge or consent, or against the will of the principal debtor, the provisions of articles 1236 and 1237 shall apply. A contract of guaranty is between the guarantor and the creditor. It can be instituted without the knowledge or even against the will of the debtor, since the purpose of the contract is to give the creditor all the possible measures to secure payment. However, if the contract of guaranty is entered into without the knowledge or consent or against the will of the principal debtor, the effect is like payment by a 3 person:rd

1. The guarantor can only recover insofar as the payment has been beneficial to the debtor. 2. The guarantor cannot compel the creditor to subrogate him in the creditors rights such as those arising from a mortgage, guaranty or penalty.

If the guaranty was entered into with the consent of the principal debtor, the guarantor is subrogated to all the rights which the creditor had against the debtor once he pays for the obligation. Illustration:


A owes B P10,000. Without the knowledge of A, C guarantees the obligation. C pays A P10,000. C tries to collect the P10,000 from A, but A tells him that he has already paid B 4,000. In this case, C can only collect P6,000 from A since it was only the extent to which A was benefited by his payment. If the loan was secured by a mortgage, C cannot foreclose the mortgage if A does not pay him because he is not subrogated to the rights of B. Art. 2052. A guaranty cannot exist without a valid obligation. Nevertheless, a guaranty may be constituted to guarantee the performance of a voidable or unenforceable contract. It may also guarantee a natural obligation. A guaranty is an accessory contract and cannot exist without a valid principal obligation. So if the principal obligation is void, the guaranty is also void. BUT, a guraranty may be constituted to guarantee the following defective contracts and natural obligations: 1. Voidable: because the contract is binding unless it is annulled 2. Unenforceable: because an unenforceable contract is not void. 3. Natural obligations: even if the principal obligation is not civilly enforceable, the creditor may still go after the guarantor Art. 2053. A guaranty may also be given as security for future debts, the amount of which is not yet known; there can be no claim against the guarantor until the debt is liquidated. A conditional obligation may also be secured. Continuing Guaranty (def) A guaranty that is not limited to a single transaction but which contemplates a future course of dealings, covering a series of transactions generally for an indefinite time or until revoked . A continuing guaranty is generally prospective in its operation and is intended to secure future transactions (generally does not include past transactions). Examples:

1. Common example given by JPSP is the credit line The bank allows you to borrowup to a certain ceiling, but there is no release of funds yet. If you have an obligation with a third person and you default, the third person just needs to inform the bank, and the bank will release the money. The money released will be considered as a loan from the bank to you. The bank will allow the release of the money so long as it doesnt exceed the ceiling.

2. To secure payment of any debt to be subsequently incurred If the contractstates that the guaranty is to secure advances made from time to time, now in force or hereafter made, or uses the words any debt, any indebtedness, any sum, any transaction, the guaranty is a continuing guaranty.

3. To secure existing unliquidated debts Future debts may also mean debts thatalready exist but whose amount is still unknown.

Art. 2053 may be misleading because it says that a guaranty may be constituted to secure future debts. The important thing to remember in the guaranty of future debts is that there must be an


existing obligation already that is being guaranteed. Because without that existing obligation, the guaranty would be void. Guaranty is an accessory obligation, so it cannot exist without the principal. Example: G guarantees the 10K loan that B owes L and any other indebtedness that B may incur against L. This is a valid guaranty because there is already an existing obligation (the 10K loan). G guarantees the loan that B and L will enter into tomorrow. This is not valid. Although it is for a future debt, it is not valid under Article 2053 because there is no principal obligation yet. There is nothing to guarantee. Guaranty of Conditional Obligations If the principal obligation is subject to a suspensive condition, the guarantor is liable only after the fulfillment of the condition. If it is subject to a resolutory condition, the happening of the condition extinguishes both the principal obligation and the guaranty. Art. 2054. A guarantor may bind himself for less, but not for more than the principal debtor, both as regards the amount and the onerous nature of the conditions. Should he have bound himself for more, his obligations shall be reduced to the limits of that of the debtor. Since the contract of guaranty is a subsidiary and accessory contract, the guarantors liability cannot exceed that of the principal obligation. If the guarantor binds himself for more than the liability of the principal debtor, his liability shall be reduced. However, if the creditor sues the guarantor, the guarantor may be made to pay costs, attorneys fees, and penalties even if this will make his liability exceed that of the principal. How do you opt out of this rule? Example: G guaranteed Bs 100K obligation to L to the extent of 100K. As an extra consideration for lending the money, L wants an additional 20K from guarantor (gravy, according to JPSP). Since 2054 provides that the guarantor cannot bind himself for more than the principal debtor, how do the parties opt out of the rule? Guarantor and Lender should enter into a new and separate agreement. They should take it out of the context of the guaranty and have a new agreement in which L would (kunwari) perform some service for G in consideration of the additional 20K. Art. 2055. A guaranty is not presumed; it must be express and cannot extend to more than what is stipulated therein. If it be simple or indefinite, it shall comprise not only the principal obligation, but also all its accessories, including the judicial costs, provided with respect to the latter, that the guarantor shall only be liable for those costs incurred after he has been judicially required to pay. RULE: Guaranty is never presumed. It must be express. Reason for the rule: Because a guarantor assumes an obligation to pay for anothers debt without any benefit to himself. Thus, it has to be certain that he really intends to incur such an obligation and that he proceeds with consciousness of what he is doing.

Form required for Guaranty Guaranty must be IN WRITINGSheryl IID 2002 PAGE 17

A contract of guaranty, to be enforceable, must be in writing because it falls under the Statute of Frauds as a special promise to answer for the debt, default or miscarriage of another. De Leon textbook says that surety is not covered by the Statute of Frauds. JPSP says that a surety is still covered by the SOF since it is still a promise to answer for the default of another person. What is not covered by the SOF is being a solidary co-debtor. Construction of Guaranty A guaranty is strictly construed against the creditor and in favor of the guarantor and is not to be extended beyond its terms or specific limits. Doubts should be resolved in favor of the guarantor or surety. Generally, a guarantor is liable only for the obligation of the debtor stipulated upon, and not to obligations assumed PREVIOUS to the execution of the guaranty unless an intent to be so liable is clearly indicated. (Prospective application of the guaranty) However, this rule of construction is applicable only to an accommodation surety or one that is gratuitous. It does not apply in cases where the surety is compensated with consideration. In such cases, the agreement is interpreted against the surety company that prepared it. Is a stipulation that says that the guaranty will subsist only until maturity of the obligation valid? Generally, no. Such a stipulation would defeat the purpose of a guaranty which is to answer for the default of the principal debtor. If the guaranty is only up to the date of maturity, there is no way that the guarantor can be liable since default comes only at maturity date. But Cayo pointed out a situation in class where this might be possible and JPSP agreed: If the lender asked for a guaranty precisely because there was a danger of the borrower absconding or becoming insolvent prior to maturity date, then the guaranty is valid. 2nd Paragraph of Art. 2055: Extent of Guarantors Liability

1. Definite guaranty The liability of the guarantor is limited to the principal debt,to the exclusion of accessories.

2. Indefinite or simple guaranty If the agreement does not specify that the liability ofthe guarantor is limited to the principal obligation, it extends not only to the principal but also to all its accessories. This is because in entering into the agreement, the principal could have fixed the limits of his responsibility solely to the principal. If he did not fix it, it is presumed that he wanted to be bound not only to the principal but also to all its accessories. GENERAL RULE: It is not necessary for the CREDITOR to expressly accept the contract of guaranty since the contract is unilateral; only the guarantor binds himself to do something. EXCEPTION: If the guarantor merely offers to become a guaranty, it does not become a binding obligation unless the creditor accepts and notice of acceptance is given to the guarantor. On the other hand, if the guarantor makes a direct or unconditional promise of guaranty

(and not merely an offer), there is no need for acceptance and notice of such acceptance from the creditor. Art. 2056. One who is obliged to furnish a guarantor shall present a person who possesses integrity, capacity to bind himself, and sufficient property to answer for the obligation which he guarantees.


The guarantor shall be subject to the jurisdiction of the court of the place where this obligation is to be complied with. Art. 2057. If the guarantor should be convicted in first instance of a crime involving dishonesty or should become insolvent, the creditor may demand another who has all the qualifications required in the preceding article. The case is excepted where the creditor has required and stipulated that a specified person should be the guarantor. Ideally, the qualifications of a guarantor are the ff: 1. Integrity 2. Capacity to bind himself 3. Sufficient property to answer for the obligation which he guarantees But the creditor can waive these requirements. Jurisdiction over the guarantor: Jurisdiction over the guarantor belongs to the court where the principal obligation is to be fulfilled, in accordance with the rule that accessory follows the principal. Effect of Subsequent Loss of Qualifications The qualifications need only to be present at the time of the perfection of the contract. The subsequent loss of the qualifications would not extinguish the liability of the guarantor, nor will it extinguish the contract of guaranty. However, the creditor may demand another guarantor with the proper qualifications. When may the creditor demand another guarantor? 1. In case the guarantor is convicted in the first instance of a crime involving dishonesty (since he loses integrity)

2. In case the guarantor becomes insolvent (since he loses sufficient property to answerfor the obligation which he guarantees) there is no need for a judicial declaration of insolvency What is the effect of the guarantors death on the guaranty? The guaranty survives the death of the guarantor. The general rule is that a partys contractual rights and obligations are transmissible to his successors. The rules on guaranty do not expressly provide that the guaranty is extinguished upon the death of the guarantor. Applying Art. 2057, the supervening incapacity of the guarantor does not extinguish the guaranty but merely gives the creditor the right to demand a replacement. But the creditor can waive this right and choose to hold the guarantor to his bargain. If he so chooses, the creditors claim passes to the heirs of the deceased guarantor. When may the creditor NOT demand another guarantor? Where the creditor has stipulated in the original agreement that a specified person should be the guarantor, he is bound by the terms of the agreement and he cannot thereafter deviate from it.

CHAPTER 2 EFFECTS OF GUARANTYArt. 2058. The guarantor cannot be compelled to pay the creditor unless the latter has

exhausted all the property of the debtor, and has resorted to all the legal remedies against the debtor.


The liability of the guarantor is only accessory and subsidiary. Thus, in order for the creditor to collect from the guarantor, the ff. conditions must be fulfilled: 1. The creditor should have exhausted all the property of the debtor; and 2. The creditor has resorted to all legal remedies against the debtor (ex. Accion pauliana/ rescission of fraudulent alienations) Can the creditor implead the guarantor as a co-defendant with the debtor? No. Except in cases provided in 2059, Article 2062 says that creditor should proceed against the principal debtor alone. Art. 2059. This excussion shall not take place: 1. If the guarantor has expressly renounced it; 2. If he has bound himself solidarily with the debtor; 3. In case of insolvency of the debtor; 4. When he has absconded, or cannot be sued within the Philippines unless he has left a manager or representative; 5. If it may be presumed that an execution on the property of the principal debtor would not result in the satisfaction of the obligation. GENERAL RULE: The guarantor is entitled to demand that the creditor first exhaust the properties of the principal debtor before collecting from the guarantor. EXCEPTIONS: 1. Under Art. 2059 2. If the guarantor does not comply with Art. 2060 3. If the guarantor is a judicial bondsman and sub-surety (Art. 2084) 4. Where a pledge or mortgage has been given by him as a special security. 5. If he fails to interpose it as a defense before judgment is rendered against him. EXCEPTIONS UNDER ART. 2059 (RUSIA)

1. When the right is Renounced or waived.The waiver must be made in express terms.

2. When the liability assumed by the guarantor is Solidary. In this case, he becomes a surety with primary liability. 3. When the principal debtor is Insolvent.What kind of insolvency? JPSP says its practical insolvency meaning assets are less than liabilities, but it still depends on the situation. Examples: B borrows 100K from L guaranteed by G. B has 1M in assets which are all still with him and 1.5M in liabilities. B defaults. Can L collect from G right away? No. In this case, G still has the benefit of excussion. Why? Because even if B is

apparently insolvent, since his liabilities exceed his assets, there is still no claim against these assets by the other creditors. They can still be accessed by L, and L can still file an action for collectionSheryl IID 2002 PAGE 20

of money against B. So in this case, even if B is insolvent on paper, his properties are still with him, and he can still pay L. Therefore, G still should still have the benefit of excussion. B borrows 100K from L guaranteed by G. On due date, B defaults and has zero assets but has a 200K credit/receivable from X. Can L collect from G. Still no. L must file an action for collection and an accion subrogatoria so that he can exercise Bs right to collect the money from X. Only if these actions fail can L then collect from G.

4. When the principal debtor Absconds or cannot be locally sued.So even if the borrower has fled to the Bahamas, if he still has properties here, Lender must sue against the property first before collecting from the guarantor.

5. When resort to all legal remedies would be a Useless formality.If exhausting the properties of the debtor would be useless since it would still not satisfy the obligation, the guarantor cannot require the creditor to resort to these legal remedies against the debtor anymore, since doing so would be a useless formality. In this case, it is not even necessary that the debtor is judicially declared insolvent or bankrupt. How does the lender get around this requirement? If the lender wants to be able to go against the guarantor right away without having to go through excussion, he must get the guarantor to either sign a waiver of the benefit of excussion or make him solidarily liable (a surety). Example: B borrowed 100k guaranteed by G. B defaulted. Lender made a demand for payment against G. G paid. Later, G found out that he had the benefit of excussion. He demanded reimbursement from Lender. Can G recover? G cannot recover. Payment constitutes a waiver of the benefit. Art. 2060. In order that the guarantor may make use of the benefit of excussion, he must set it up against the creditor upon the latters demand for payment from him, and point out to the creditor available property of the debtor within Philippine territory sufficient to cover the amount of the debt. Art. 2061. The guarantor having fulfilled all the conditions required in the preceding article, the creditor who is negligent in exhausting the property pointed out shall suffer the loss, to the extent of said property, for the insolvency of the debtor resulting from such negligence. To collect from the guarantor, the creditor must make a prior demand for payment from the guarantor. 1. When should the demand be made? The demand can only be made after judgment on the debt.

2. How should it be made? The demand must be an actual demand. Joining theguarantor in the suit against the principal is not the demand intended by law. Additional Requisites in Order to Claim the Benefit of Excussion Guarantor tells Lender Exhaust Borrowers property first before collecting from me. Is this enough for the Guarantor to claim the benefit of excussion?

No. In order to demand that the creditor exhaust the properties of the principal debtor, the guarantor must:


1. Set up the benefit of excussion against the creditor upon demand for payment by the creditor from him; and

2. Point out to the creditor available property of the debtor within Philippine

territory sufficient to cover the amount of debt. (Therefore, property located abroad or which is not easily available is not included among those that the guarantor can point out to the creditor.) Once the guarantor has fulfilled the requisites for making use of the benefit of excussion, the creditor has the duty to exhaust all the property of the debtor and to resort to all legal remedies against the debtor. If he fails to do so, he shall suffer the loss to the extent of the value of the property. Art. 2062. In every action by the creditor, which must be against the principal debtor alone, except in the cases mentioned in Article 2059, the former shall ask the court to notify the guarantor of the action. The guarantor may appear so that he may, if he so desires, set up such defenses as are granted him by law. The benefit of excussion mentioned in article 2058 shall always be unimpaired, even if judgment should be rendered against the principal debtor and the guarantor in case of appearance by the latter. The creditor must sue the principal debtor alone. He cannot sue the guarantor with the principal or the guarantor alone except in the cases mentioned in Art. 2059 where the guarantor loses the benefit of excussion. The guarantor must be notified so that he may appear and set up his defenses if he wants to. If the guarantor appears, he is still given the benefit of exhaustion event after judgment is rendered against the principal debtor. If he does not appear, judgment is not binding on him. Lender must sue the guarantor to claim against him. So, collecting from the guarantor is really a two-step process. The purpose of the two-step process is to allow the guarantor to make use of the benefit of excussion. The disadvantage is that there is a time lag between the judgment against the principal debtor and the one against the guarantor, which allows the guarantor to hide his assets in the meantime. How to get around this two-step process: A bank guaranty or a letter of credit. In a bank guaranty, if the debtor does not pay, the creditor need only inform the bank of the default and the bank releases the money. Its like a standing loan by the bank in favor of the debtor to answer for a debt in favor of third persons, in case he is unable to pay.

Art. 2063. A compromise between the creditor and the principal debtor benefits the guarantor but does not prejudice him. That which is entered into between the guarantor and the creditor benefits but does not prejudice the principal debtor. Reason: A compromise binds only the parties thereto and not third persons. Thus, it cannot prejudice the guarantor or debtor who was not a party to the compromise. Exception: If the compromise has a benefit in the nature of a stipulation in favor of a third person, the compromise may bind that third person. Example: D owes C 10K with G as guarantor. D and C agree to reduce the debt to 8K. Gs liability is also reduced to 8K in case D does

not pay, since the compromise is beneficial to G.


Art. 2064. The guarantor of a guarantor shall enjoy the benefit of excussion both with respect to the guarantor and to the principal debtor. A sub-guarantor can demand the exhaustion of the properties both of the guarantor and of the principal debtor before he pays the creditor. Art. 2065. Should there be several guarantors of only one debtor and for the same debt, the obligation to answer for the same is divided among all. The creditor cannot claim from the guarantors except the shares which they are respectively bound to pay, unless solidarily has been expressly stipulated. The benefit of division among the co-guarantors ceases in the same cases and for the same reasons as the benefit of excussion against the principal debtor. When is there a benefit of division among several guarantors? The following conditions must concur in order that several guarantors may claim the benefit of division: 1. There should be several guarantors 2. Of only one debtor 3. For the same debt In this case, the liability of the co-guarantors is joint. beyond the shares which they are bound to pay. Exceptions: 1.The co-guarantors cannot avail themselves of the benefit of division under the circumstances enumerated in Art. 2059 (RUSIA). 2. If solidarity has been expressly stipulated. Art. 2066. The guarantor who pays the debtor must be indemnified by the latter. The indemnity comprises: (1) The total amount of the debt; (2) The legal interests thereon from the time the payment was made known to the creditor, even though it did not earn interest for the creditor; (3) The expenses incurred by the guarantor after having notified the debtor that payment had been demanded of him; (4) Damages, if they are due. Once the guarantor pays the principal obligation, the principal debtor must pay him back consisting of: (TIED) They are not liable to the creditor

1. The Total amount of the debt The guarantor has the right to demandreimbursement only when he has actually paid the debt UNLESS there is a stipulation which gives him the right to demand reimbursement as soon as he becomes liable even if he has not yet paid. The guarantor cannot ask for more than what he has paid.

2. I nterest The guarantor is entitled to interest from the time notice of payment of

the debt was made known to the debtor. The notice is a demand upon the debtor to pay the guarantor. If he delays, he is liable for damages in the form of interest. The guarantor can collect interest even if the principal obligation was a loan without an interest. This is

becauseSheryl IID 2002 PAGE 23

the right of the guarantor is independent of the principal obligation to the creditor. The basis of the right is the delay of the debtor in reimbursing.

3. E xpenses This refers only to those expenses that the guarantor has to satisfy in

accordance with law as a consequence of the guaranty. This is limited to those expenses incurred by the guarantor after having notified the debtor that payment has been demanded of him by the creditor.

4. D amages Guarantor is entitled to damages only if they are due.Exceptions to the right to indemnity of the guarantor 1. Where the guaranty is constituted without the knowledge or against the will of the debtor, the guarantor can only recover insofar as the payment had been beneficial to the debtor 2. Payment by a third person who does not intend to be reimbursed by the debtor is deemed to be a donation, which requires the debtors consent. But the payment is valid with respect to the creditor. 3. Waiver Art. 2067. The guarantor who pays is subrogated by virtue thereof to all the rights which the creditor had against the debtor. If the guarantor has compromised with the creditor, he cannot demand of the debtor more than what he has really paid. When the guarantor pays, he becomes subrogated to the rights of the creditor against the debtor. What happens really is just a change in creditor. The guarantor becomes the creditor, but the obligation subsists in all other aspects. He may, for example, foreclose a mortgage in case of failure of the debtor to reimburse him. The right of subrogation is given to the guarantor so that he can enforce his right to indemnity/ to be reimbursed. It arises by operation of law upon payment by the guarantor. The creditor need not formally cede his rights to the guarantor. But the right of subrogation is given only to the guarantor if he has the right to be reimbursed. If, for some reason, he has no right to be reimbursed, he cannot subrogate either. Compromise B owes lender P1M. Lender was a good friend of Guarantor and agreed that if G became liable, he would only have to pay P500K. If B defaults and Guarantor pays P500K, he can only recover P500K from B, not the original P1M. Is there a situation where this rule would even be disadvantageous to the Debtor? Yes. Lets say there was no such rule. B owes L P1M. G, who was a compadre of L, brokered a deal with L, in which they agreed that should G become liable, he would only pay P500K. Since theres no rule, G tells B about the deal with L. G tells B that if G pays the P500K, B should reimburse him P600K. This would give B a savings of P400 K, while G earns P100K. Everyone will be happy.

But since there is a rule that says that G cannot ask for more than what he has actually paid, G has no inducement, no incentive to broker that deal with his compadre L. Why would he go through the trouble when in any case, he would be getting the same amount that he pays?


How do you get out of this situation? B should hire G as his agent to broker the deal with L. As compensation for the service rendered by G, B will pay him P100K. So the agreement is taken out of the context of the guaranty and everyone is happy. Art. 2068. If the guarantor should pay without notifying the debtor, the latter may enforce against him all the defenses which he could have set up against the creditor at the time the payment was made. Obligation of the guarantor before he pays the creditor Before he pays the creditor, guarantor should first give notice to the principal debtor. If he does not give notice, the debtor may enforce all the defenses which he could have set up against the creditor at the time of payment. Example: Debtor pays Creditor. But Creditor is sneaky and tells Guarantor that Debtor defaulted. So Guarantor pays, without telling Debtor. Guarantor makes a demand for reimbursement from Debtor. Is Debtor liable? No. Debtor can invoke the fact of payment to the Creditor against Guarantor. Had Guarantor given notice to Debtor, he would have known of the defenses that Debtor had against Creditor which would have made him think twice about paying. Guarantors remedy here is against sneaky Creditor. Art. 2069. If the debt was for a period and the guarantor paid it before it become due, he cannot demand reimbursement of the debtor until the expiration of the period unless the payment has been ratified by the debtor. If the principal debt was one with a period, it becomes demandable only upon expiration of the period. Guarantor is only liable if the debtor defaults, but there can be no default before the expiration of the period. If the guarantor still pays before the expiration of the period, he must wait for the period to expire before he can collect from the debtor. Exception: Guarantor need not wait for the period if the debtor ratifies payment or consents to it. Art. 2070. If the guarantor has paid without notifying the debtor, and the latter not being aware of the payment, repeats the payment, the former has no remedy whatever against the debtor, but only against the creditor. Nevertheless, in case of gratuitous guaranty, if the guarantor was prevented by a fortuitous event from advising the debtor of the payment, and the creditor becomes insolvent, the debtor shall reimburse the guarantor for the amount paid. This is like the situation in 2068, only this time, the guarantor pays before the debtor pays. Even in such a case, guarantor still cannot recover from debtor because he should have informed debtor of his intention to pay. Had he informed debtor, debtor would not have paid. Guarantor will suffer the loss of his failure to comply with his one and only obligation before paying which is to notify the debtor. Exception: Guarantor may claim reimbursement from debtor if (requisites): 1. It is a gratuitous guaranty 2. The guarantor was prevented by a fortuitous event from informing the debtor of payment 3. Creditor becomes insolvent Remember that the culprit here, aside from the guarantor who did not inform the debtor, is the sneaky creditor who nonchalantly received payment twice. If he is solvent, the guarantor must collect from him. But if he is insolvent and the three requisites above are present, the guarantor can reimburse from the principal debtor.

Art. 2071. The guarantor, even before having paid, may proceed against the principal debtor: (1) When he is sued for payment;


(2) In case of insolvency of the principal debtor; (3) When the debtor has bound himself to relieve him from the guaranty within a specified period, and this period has expired; (4) When the debt has become demandable, by reason of the expiration of the period for payment; (5) After the lapse of 10 years, when the principal obligation has no fixed period for its maturity unless it be of such nature that it cannot be extinguished except within a period longer than 10 years; (6) If there are reasonable grounds to fear that the principal debtor intends to abscond; (7) If the principal debtor is in imminent danger of becoming insolvent. In all these cases, the action of the guarantor is to obtain release from the guaranty, or to demand a security that shall protect him from any proceedings by the creditor and from the danger of insolvency of the debtor. Under these 7 circumstances, the guarantor has these rights against the debtor BEFORE he makes payment: 1. Right to be released if lender agrees Release from the guaranty requires that the lender consent because the guaranty is actually a contract between the lender and the guarantor 2. Right to demand a security The purpose is to enable the guarantor to take measures to protect his interest in view of the probability that debtor would default and he would be called upon to answer for the obligation. Art. 2072. If one, at the request of another, becomes a guarantor for the debt of a third person who is not present, the guarantor who satisfies the debt may sue either the person so requesting or the debtor for reimbursement. Art. 2073. When there are two or more guarantors of the same debtor and for the same debt, the one among them who has paid may demand of each of the others the share which is proportionately owing from him. If any of the guarantors should be insolvent, his share shall be borne by the others, including the payer, in the same proportion. The provisions of this article shall not be applicable, unless the payment has been made in virtue of a judicial demand or unless the principal debtor is insolvent. This article applies only if there are two or more guarantors of the same debtor for the same debt and one of them has paid: 1. by virtue of a judicial demand; or 2. when the principal debtor is insolvent. The liability of the guarantors is joint. If one of them pays the entire obligation, he is entitled to be reimbursed the amount of the shares of the other guarantors.

Example: A, B, C guaranty the 90K loan of X. A pays 90K. A can collect 30 K each from B and C.


But unlike in an ordinary joint obligation, if one of the guarantors is insolvent, the coguarantors must answer for his share. In this sense, the obligation behaves like a solidary obligation. Example: A, B, C guaranty the 90K loan of X. A pays 90K. B becomes insolvent. A and C must shoulder Bs share. So their liabilities become 45K each. A can collect 45 K from C. Art. 2074. In the case of the preceding article, the co-guarantors may set up against the one who paid, the same defenses which would have pertained to the principal debtor against the creditor, and which are not purely personal to the debtor. Example: A, B, C guaranty the obligation of X. A pays even if the obligation has prescribed already. A demands reimbursement from B and C. Can they refuse to pay? Yes, they can invoke defenses inherent in the obligation, such as prescription, against the co-guarantor who pays. A, B, C guaranty the obligation of X who was a minor. A pays. Can B and C refuse to reimburse him on the ground that X is a minor? No, because the defense is personal to X. Art. 2075. A sub-guarantor, in case of the insolvency of the guarantor for whom he bound himself, is responsible to the co-guarantors in the same terms as the guarantor. A, B, C are guarantors of X. D is a guarantor of A. C pays the entire obligation. A becomes insolvent. Can C reimburse from D? Yes, according to Art. 2075.

CHAPTER 3 EXTINGUISHMENT OF GUARANTYArt. 2076. The obligation of the guarantor is extinguished at the same time as that of the debtor, and for the same causes as all other obligations. Because guaranty is an accessory and subsidiary contract, it is extinguished once the principal obligation is extinguished. But the extinguishment of the guaranty does not always carry with it the extinguishment of the principal obligation. Any agreement between the creditor and the principal debtor which essentially varies the terms of the principal contract without the consent of the surety will release the surety from liability. This is because the alteration would result in a novation of the principal contract which is consequently extinguished and replaced with a new one. Since the old principal contract is extinguished, the accessory contract of guaranty/surety is also extinguished. When is an alteration material? There must be a change which imposes a new obligation or added burden or which takes away some obligation already imposed, changing the legal effect of the contract. Examples: 1. Increase in the principal amount, regardless of the extent of the liability assumed by the guarantor 2. Substitution of the principal debtor 3. Extension or shortening of the term of the principal debt In these cases, the guaranty is extinguished altogether.

Decrease in the amount of the principal obligation: The guaranty subsists and is benefited by the change since the guarantor cannot bind himself for more than the principal obligation.


Art. 2077. If the creditor voluntarily accepts immovable or other property in payment of the debt, even if he should afterwards lose the same through eviction, the guarantor is released. This is a case of dacion. Since dacion extinguishes the principal obligation, the accessory obligation is also extinguished and is not revived even if the creditor is subsequently evicted from the property. Art. 2078. A release made by the creditor in favor of one of the guarantors, without the consent of the others, benefits all to the extent of the share of the guarantor to whom it has been granted. A, B, C are guarantors of X for 90K. The creditor releases A without the consent of B and C. The release should benefit B and C to the extent of 30K (As share). They shall be liable only for 60K or 30K each. A, B, C are guarantors of X for 90K. The creditor releases A with the consent of B and C. Since B and C consented to the release, their liability is still 90K or 45K each. Art. 2079. An extension granted to the debtor by the creditor without the consent of the guarantor extinguishes the guaranty. The mere failure on the part of the creditor to demand payment after the debt has become due does not of itself constitute any extension of time referred to herein. If the creditor grants the debtor an extension of time within which to comply with the principal obligation, the guaranty is extinguished. This is because the principal debtor could become insolvent during the extension period, and the guarantor would not be able to ask for reimbursement. But if the guarantor consents or waives his right under this article in advance, the extension will not extinguish the guaranty. It is immaterial whether the guarantor suffers actual prejudice as a result of the extension. The length of time of the extension is also immaterial. As long as the period is extended, the guaranty is extinguished. The extension must be based on a new agreement between the debtor and creditor. If the creditor merely fails to make a demand on due date, it is not an extension. Can the guarantor sue the creditor for his delay in making a demand, thereby lengthening the risk of the insolvency of the principal debtor? No. Art. 2080. The guarantors, even though they are solidary, are released from their obligation whenever by some act of the creditor they cannot be subrogated to the rights, mortgages and preference of the latter. Art. 2081. The guarantor may set up against the creditor all the defenses which pertain to the principal debtor and are inherent in the debt; but not those that are purely personal to the debtor.

Chapter 4 Legal and Judicial BondsThe only important thing you have to remember about a legal bond is that it is a surety. Therefore there is no benefit of excussion.


PLEDGE AND MORTGAGE PROVISIONS COMMON TO PLEDGE AND MORTGAGEArticle 2085. The following requisites are essential to the contracts of pledge and mortgage:

(1)That they be constituted to secure the fulfillment of a principal obligation; (2)That the pledgor or mortgagor be the absolute owner of the thing pledged or mortgaged; (3)That the persons constituting the pledge or mortgage have the free disposal of theirproperty and in the absence thereof, that they be legally authorized for the purpose. (4)Third persons who are not parties to the principal obligation may secure the latter by pledging or mortgaging their own property. Article 2086. The provisions of article 2052 are applicable to a pledge or mortgage. [A guaranty cannot exist without a valid obligation. However, it may guarantee the performance of a voidable or unenforceable contract or a natural obligation] Article 2087. It is also of the essence of these contracts that when the principal obligation becomes due, the things in which the pledge or mortgage consists may be alienated for the payment to the creditor. WHAT IS PLEDGE? It is a contract by virtue of which the debtor delivers to the creditor or to a third person a movable or a document involving incorporeal rights for the purpose of securing the fulfillment of a principal obligation with the understanding that when the obligation is fulfilled, the thing delivered shall be returned with all its fruits and accessions. What are the kinds of pledge? Pledge may be either: 1. Voluntary or conventional (created by agreement of the parties); 2. Legal (by operation of law). What are the characteristics of pledge? [RAUS] Pledge is:

1. Real, because it is perfected by delivery of the thing pledged. 2. Acessory, because it has no independent existence. 3. Unilateral, because it creates an obligation solely on the part of the creditor toreturn the thing pledged upon fulfillment of the principal obligation.

4. Subsidiary, because the obligation of the creditor does not arise until fulfillmentof the principal obligation. WHAT IS THE CONSIDERATION IN PLEDGE? If the pledgor is also the debtor, the consideration is the principal contract. If the pledgor is a third person, the cause it the compensation received or the liberality of the pledgor. WHAT ARE THE DIFFERENCES BETWEEN PLEDGE AND MORTGAGE?

1. Mobility pledge is constituted on movables; mortgage on immovables. 2. Delivery pledge requires delivery for perfection; mortgage does not.

Cayo IID 2002 PAGE 29

3. Requisites to bind third person/s pledge, to bind third persons must be in apublic instrument; mortgage, must be registered in the proper registry. A LOAN IS SECURED BY BOTH A PLEDGE AND A GUARANTY. CAN THE CREDITOR REFUSE PAYMENT BY THE GUARANTOR AND CHOOSE TO FORECLOSE IN ORDER TO SATISFY THE DEBT? No, payment by the guarantor cannot be refused. WHAT ARE THE ESSENTIAL REQUISITES OF PLEDGE AND MORTGAGE? [PRADO]

1. Purpose - To secure fulfillment of principal obligation; 2. Real There must be delivery of the thing. 3. Alienation when the principal obligation becomes due and the debtor defaults, thething may be alienated to satisfy the former.

4. Disposal Pledgor/mortgagor must have free disposal of the thing or capacity todispose.

5. Ownership Pledgor/mortgagor must be the absolute owner of the thing;

PURPOSE: To secure fulfillment of a principal obligationWHAT IF THE THING PLEDGED/MORTGAGED IS SUBSEQUENTLY LOST; WHO BEARS THE LOSS? IS THE PRINCIPAL OBLIGATION EXTINGUISHED? The pledgor bears the loss. Remember that there hasnt been transfer of ownership. The principal obligation is of course not extinguished, the pledge/mortgage is only accessory. However, the debtor must replace the thing or lose the benefit of the period. Pledge/mortgage is a direct lien on the property. It is better than guarantee because the property pledged can be sold upon default by the debtor, unlike in guaranty where several requirements have to be complied with first. PROBLEM: D TRANSFERS PROPERTY TO C AND AT THE SAME TIME EXECUTES AN INDEMNITY AGREEMENT; OR D TRANSFERS PROPERTY TO C TO SECURE AN EXISTING OBLIGATION. HOW WILL THE TRANSFER BE CHARACTERIZED? Both transfers will be characterized as pledges.

REAL: There must be delivery of the thing to perfect the contract.An agreement to pledge, when there is breach, gives rise to damages.

ALIENATION: When the principal obligation becomes due and the debtor defaults, the thing may be alienated to satisfy the former.DOES THE CREDITOR HAVE TO GO TO COURT TO ENFORCE THE PLEDGE OR MORTGAGE? No, to require litigation would be to nullify the lien and defeat the purpose of the contract.

FREE DISPOSAL:


WHAT DO FREE DISPOSAL AND CAPACITY TO DISPOSE OF THE PROPERTY MEAN? Free disposal means that the property is not subject to any claim by a third person. Capacity to dispose means that though the pledgor/mortgagor does not have free disposal, the third person with a claim authorized him to dispose (tingin ko lang). In case of corporations, the board should adopt a resolution to approve the pledge/mortgage. If what is to be pledged or mortgaged constitutes all of the corporations assets, 2/3 of outstanding capital stock must approve. Rule on consent: If pledgor/mortgagor is married, consent of spouse is needed; if agent, authorization of principal. For married persons how to wiggle out of a pledge or mortgage agreement: Pledge or mortgage your conjugal property without your spouses signature. In case the property is foreclosed, you can raise the defense that there was no consent (remember, half consent is no consent!) What if the pledge was constituted to secure an obligation of the family business, doesnt this redound to the benefit of the conjugal partnership? No, JPSP said that the pledge of conjugal property con only be considered to redound to the benefit of the partnership if the family business is constituting pledges. If you are the pledgee/mortgagee, check if pledgor/mortgagor has authority to dispose of the property. Another example on free disposal or legal authority: Ex. Pledgor corporation is placed under receivership. The corporation cannot pledge shares of stock because pledge is a disposition requiring court approval.

OWNERSHIP:CAN FUTURE PROPERTY BE PLEDGED? No, it is essential that the pledgor be the absolute owner of the thing. Note: It is the sale and not the registration in the LTO that transfers ownership of a vehicle. Note: A co-owner can only pledge/mortgage his ideal share in the co-ownership. Note: A mortgagor can rely on what is on the face of the Torrens title. WHAT IS MEANT BY ABSOLUTE OWNERSHIP? BOTH BENEFICIAL AND LEGAL TITLE must vested in the pledgor/mortgagor Ex. Trustee is legal owner of shares of stock; trustor is beneficial owner: Neither can pledge the shares. Pledge/mortgage cant be constituted without a principal obligation even if there is a subsequent principal obligation. This is different from situation where the lender extends a credit line for 1M, though borrower has not yet drawn, the credit line can still be secured via pledge/mortgage. Ex. deed of assignment/absolute sale to secure fulfillment of obligation this is a mortgage or an implied trust according to the SC. The pledgor/mortgagor must be absolute owner of the thing or the property. The creditor may rely on the title/stock certificate if there is no notice of defect in title. However, failure of the pledgor to present the thing is a red flag that should put the pledgee on guard as to the pledgors right to pledge the thing.


Though the pledgor must own the thing and have free disposal of it, see the following problem discussed in class: Ex. On day 1, stocks are sold to X with the condition that the sale will be effective if X tops the bar. On day 2, X pledges the stocks. On day 3, the bar exam results come out, with X in the number one spot. Is the pledge valid? Yes, the pledge is valid. Remember Oblicon, conditional obligations? The effects of a conditional obligation to give, when the condition happens, retroact to the date of the constitution of the obligation. OWNERSHIP RETROACTS TO DAY 1. In the above condition, what if the condition is resolutory? As long as the pledge is registered in a public document, it is valid and binding as to third persons. Ex: Day 1 - X receives from A shares of stock with the resolutory condition that they shall be returned to A if X does not pass the bar. Day 2 X pledges the shares. Day 3 X fails the bar. Is the pledge valid? Yes. As long as the pledgee registered the pledge in a public instrument, such pledge is binding on A. *But if you use the argument that the effects retroact, doesnt that mean that when X pledged the things, he wasnt the owner? I suppose the public instrument is stronger than the legal fiction. CAN THE CREDITOR IMMEDIATELY ACCEPT A PLEDGE FURNISHED BY A DEBTOR IF THE PLEDGE BELONGS TO A THIRD PERSON? No, the creditor cannot require on the word of the pledgor/mortgagor alone, he must exercise due care and make sure the pledge/mortgage has given consent. This is especially true in the banking industry, which is impressed with public interest. WHAT IS THE CONSEQUENCE THEN IF THE CREDITOR DOES NOT VERIFY WITH THE PLEDGOR/MORTGAGOR? The pledge/mortgage is null and void. Article 599 gives the owner of a movable who has been unlawfully deprived thereof the right to recover the same.

(1)Article 2088. The creditor cannot appropriate the things given by way of pledge ormortgage, or dispose of them. Any stipulation to the contrary is null and void. WHAT DOES THE CREDITOR WITH THE PLEDGE/MORTGAGE WHEN THE DEBTOR DEFAULTS? The creditor can move for the sale of the thing pledged or mortgaged. WHAT IF THE CREDITOR WANTS TO ACQUIRE THE THING? He may purchase it at the public auction. WHAT IF THERE IS A STIPULATION THAT THE CREDITOR WILL ACQUIRE THE THING UPON DEFAULT? The stipulation (pactum commissorium) is null and void. WHAT ARE THE REQUISITES FOR PACTUM COMMISSORIUM TO EXIST? 1. There should be a pledge/mortgage;

2. There should be a stipulation for AUTOMATICappropriation or the thing in case of default by the debtor. ARE THERE ANY EXCEPTIONS TO PACTUM COMMISSORIUM?Cayo IID 2002 PAGE 32

Yes, Article 2112 provides that if the thing pledged or mortgaged is not sold in two public auctions, the creditor may appropriate the same. WHAT IS THE REASON FOR THE PROHIBITION? The value of the thing pledged or mortgaged is usually more than the amount of the obligation. WHAT HAPPENS TO THE CONTRACT OF PLEDGE/MORTGAGE IF THERE IS A STIPULATION OF PACTUM COMMISSORIUM; IS IT VOID? No, only the stipulation is void; the principal contract will subsist. HOW CAN YOU OPT OUT OF THE PROHIBITION ON PACTO COMMISSORIO? 1. You can enter into another contract subsequent to the pledge/mortgage. The prohibition applies only to stipulations made in the contract of pledge/mortgage. 2. The debtor can voluntarily cede the property to the creditor. This would in effect be a novation of the pledge/mortgage. 3. There can be a stipulation where the debtor merely promises to sell; non-compliance would give the creditor, not a right to the property, but an action for damages.

4. There can be a

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