2ND EXAM – Obligations and Contracts
in the obligation;
Xandredg Sumpt L. Latog
Chapter 3
DIFFERENT KINDS OF OBLIGATIONS
Section 6
OBLIGATIONS WITH A PENAL CLAUSE
Article 1226. In obligations with a penal clause, the penalty
shall substitute the indemnity for damages and the payment of interests
in case of non-compliance, if there is no stipulation to the contrary.
Nevertheless, damages shall be paid if the obligor refuses to pay the
penalty or is guilty of fraud in the fulfilment of the obligation.
The penalty may be enforced only when it is demandable in
accordance with the provisions of this Code.
A penalty clause, expressly recognized by law, is an
accessory undertaking to assume greater liability on the part of an
obligor in case of breach of an obligation.  It functions to
strengthen the coercive force of the obligation and to provide, in
effect, for what could be the liquidated damages resulting from
such a breach.  The obligor would then be bound to pay the
stipulated indemnity without the necessity of proof on the existence
and on the measure of damages caused by the breach [Ligutan v.
Court of Appeals].
Sps. Poon v. Prime Savings Bank
Held: It is settled that a provision is a penal clause if it calls for
the forfeiture of any remaining deposit still in the possession of the lessor,
without prejudice to any other obligation still owing, in the event of the
termination or cancellation of the agreement by reason of the lessee's
violation of any of the terms and conditions thereof. This kind of agreement
may be validly entered into by the parties. The clause is an accessory
obligation meant to ensure the performance of the principal obligation by
imposing on the debtor a special prestation in case of nonperformance or
inadequate performance of the principal obligation.
Kinds of Penal Clauses
As to its origin:
1. Legal penal clause – imposed by law.
2. Conventional penal clause – that which has been
agreed upon by the parties.
The application of the penal clause may be governed by
the stipulation of the parties. Hence, if there is nothing stipulated as
to how it shall be applied, the law will come in: the penalty shall
substitute the indemnity for damages and the payment of interest in
case of non-compliance. If the parties stipulate that the award of
the penalty pursuant to the penalty clause shall not constitute a bar
to the recovery of other damages, and in the payment of interest,
then it shall be so.
As to its effects:
1. Subsidiary – when only the penalty may be asked
2. Joint- when both the principal contract and the penal
clause can be enforced.
General rule: The penalty takes place of indemnity for
damages and for the payment of interest. However, there are
exceptions:
(a) When there is express stipulation to the effect that
damages or interest may still be recovered, despite
the presence of the penalty clause;
1|Page
(b) When the debtor refuses to pay the penalty imposed
(c) When the debtor is guilty of fraud or dolo in the
fulfilment of the obligation. The reason for the third
exception is that there can be no renunciation of an
action to enforce liability for future fraud because
this is against public policy and against express
provisions of law.
A penalty stipulation is not necessarily preclusive of
interest, if there is an agreement to that effect, the two being
distinct concepts which may separately be demanded. What may
justify a court in not allowing the creditor to impose full surcharges
and penalties, despite an express stipulation therefor in a valid
agreement, may not equally justify the non-payment or reduction of
interest.  Indeed, the interest prescribed in loan financing
arrangements is a fundamental part of the banking business and the
core of a bank's existence [Ligutan vs. Court of Appeals].
Article 1227. The debtor cannot exempt himself from the
performance of the obligation by paying the penalty, save in the case
where this right has been expressly reserved for him. Neither can the
creditor demand the fulfilment of the obligation and the satisfaction of
the penalty at the same time, unless this right has been clearly granted
to him. However, if after the creditor has decided to require the
fulfilment of the obligation, the performance thereof should become
impossible without his fault, the penalty may be enforced.
The general rule is that the debtor is not allowed to just
pay the penalty instead of fulfilling the obligation. He can only do
so if the right has been expressly reserved. The reason is that if he
can just pay, fulfilment of the obligation will be considered an
alternative one. The word EXPRESSLY means that any implied
reservation is not allowed.
Also, the creditor does not have the right to demand
fulfilment of the obligation and the penalty at the same time. The
exception arises when such a right has been clearly granted to him.
In obligations for the payment of a sum of money, when a penalty
is stipulated for default, BOTH the principal obligation and the
penalty can be demanded by the creditor, with interest on the
amount of the penalty from the date of judicial or extrajudicial
demand [Cabarroguis v. Vicente].
Article 1228. Proof of actual damages suffered by the
creditor is not necessary in order that the penalty may be demanded.
In obligations with a penal clause, the general rule is that
the penalty serves as a substitute for the indemnity for damages and
the payment of interests in case of noncompliance; that is, if there
is no stipulation to the contrary, in which case proof of actual
damages is not necessary for the penalty to be demanded [Pryce
Corp v. PAGCOR]. When a penal clause has been agreed upon in
the contract, more as a punishment for the infraction thereof than a
mere security, it is a lawful means for repairing losses and
damages, and upon evidence of the violation of the condition
stipulated, the injured party is not obliged to prove losses and
damages suffered, nor the extent of the same in order to demand
the enforcement of the penal clause agreed upon [Palacios v.
Municipality of Cavite].
Article 1229. The judge shall equitably reduce the penalty
when the principal obligation has been partly or irregularly complied
with by the debtor. Even if there has been no performance, the penalty
may also be reduced by the courts if it is iniquitous or unconscionable.
 As a general rule, courts are not at liberty to ignore the
freedoms of the parties to agree on such terms and conditions as
they see fit as long as they are not contrary to law, morals, good
customs, public order or public policy.  Nevertheless, the penalty
may be reduced by the court:
(a) When the obligation has been partly complied with
by the debtor. (Partial performance)
(b) When the obligation has been irregularly complied
with by the debtor. (Irregular performance)
(c) When the penalty is iniquitous or unconscionable,
even if there has been no performance at all.
The question of whether a penalty is reasonable or
iniquitous is addressed to the sound discretion of the courts. To be
considered in fixing the amount of penalty are factors such as -- but
not limited to -- the type, extent and purpose of the penalty; the
nature of the obligation; the mode of the breach and its
consequences; the supervening realities; the standing and
relationship of the parties; and the like [Ligutan v. Court of
Appeals].
Florentino v. Supervalue, Inc.
Held: In the instant case, the forfeiture of the entire amount of
the security deposits in the sum of P192,000.00 was excessive and
unconscionable considering that the gravity of the breaches committed by
the petitioner is not of such degree that the respondent was unduly
prejudiced thereby.  It is but equitable therefore to reduce the penalty of the
petitioner to 50% of the total amount of security deposits.
It is in the exercise of its sound discretion that this court
tempered the penalty for the breaches committed by the petitioner to 50%
of the amount of the security deposits.  The forfeiture of the entire sum of
P192,000.00 is clearly a usurious and iniquitous penalty for the
transgressions committed by the petitioner.  The respondent is therefore
under the obligation to return the 50% of P192,000.00 to the petitioner.
Article 1230. The nullity of the penal clause does not arry
with that of the principal obligation.
The nullity of the principal obligation carries with it that of
the penal clause.
The penal clause, being merely an accessory obligation,
does not invalidate the principal obligation in the event that such
penal clause is void or without effect. Being merely accessory to
enforce the main obligation, such penal clause could never exist if
the main obligation does not exist. Hence, the nullity of the
principal obligation carries with it that of the penal clause.
Chapter 4
EXTINGUISHMENT OF OBLIGATION
GENERAL PROVISIONS
Article 1231. Obligations are extinguished:
(1) By payment or performance;
(2) By the loss of the thing due;
(3) By the condonation or remission of the debt;
(4) By the confusion or merger of the rights of creditor and
debtor;
(5) By compensation;
(6) By novation.
Other causes of extinguishment of obligations, such as
annulment, rescission, fulfilment of a resolutory condition, and
prescription, are governed elsewhere in this Code.
Section 1
PAYMENT OR PERFORMANCE
2|Page
Article 1232. Payment means not only the delivery of money
but also the performance, in any other manner, of an obligation.
Payment is that mode of extinguishing obligations which
consists of:
(a) Delivery of money; or
(b) The performance in any other manner of an
obligation such as rendition of required service.
Article 1233. A debt shall not be understood to have been
paid unless the thing or service in which the obligation consists has
been completely delivered or rendered, as the case may be.
Payment contemplates full satisfaction of the debt or the
obligation. Complete delivery or service must comprise everything
that is necessary to satisfy the obligation consistent with the object
of the same. Hence, the obligation to give a determinate thing
includes the delivery of all its accessions and accessories, even
though they may not have been mentioned. Payment of a loan with
stipulated interest is complete only upon payment of the principal
and the interest. Anything less than a complete performance may
essentially be considered a breach of the obligation.
It is established that the one who pleads payment has the
burden of proving it. Even where the creditor alleges non-payment,
the general rule is that the debtor has the burden to prove payment,
rather than the creditor. The debtor has the burden of showing with
legal certainty that the obligation has been discharged by payment.
Where the debtor introduces some evidence of payment, the burden
of going forward with the evidence—as distinct from the general
burden of proof—shifts to the creditor, who is then under a duty of
producing some evidence to show non-payment [Multi-
International v. Martinez].
Requisites for a valid payment under this Article:
(a) The very thing or service contemplated must be paid
(Identity);
(b) Fulfillment must be complete (Completeness);
(c) The payment or performance of the obligation must
be indivisible. It is not subject to partial
performance unless otherwise agreed upon.
(Indivisibility)
Ong Bun v. BPI
Held: when the existence of a debt is fully established by the
evidence contained in the record, the burden of proving that it has been
extinguished by payment devolves upon the debtor who offers such defense
to the claim of the creditor. Even where it is the plaintiff ([petitioner]
herein) who alleges nonpayment, the general rule is that the burden rests on
the defendant ([respondent] herein) to prove payment, rather than on the
plaintiff to prove non-payment. Verily, an obligation may be extinguished
by payment. However, two requisites must concur: (1) identity of the
prestation, and (2) its integrity. The first means that the very thing due must
be delivered or released; and the second, that the prestation be fulfilled
completely. In this case, no acknowledgment nor proof of full payment was
presented by respondent but merely a pronouncement that there are no
longer apply outstanding Silver Certificates of Deposits in its books of
accounts.
Cinco v. Court of Appeals
Held: In the present case, Manuel sought to pay Ester by
authorizing her, through an SPA, to collect the proceeds of the PNB loan -
an act that would have led to payment if Ester had collected the loan
proceeds as authorized. Admittedly, the delivery of the SPA was not,
strictly speaking, a delivery of the sum of money due to MTLC, and Ester
could not be compelled to accept it as payment based on Article 1233.
Nonetheless, the SPA stood as an authority to collect the proceeds of the
already-approved PNB loan that, upon receipt by Ester, would have
constituted as payment of the MTLC loan. Had Ester presented the SPA to
the bank and signed the deed of release/cancellation of mortgage, the
delivery of the sum of money would have been effected and the obligation
extinguished. As the records show, Ester refused to collect and allow the
cancellation of the mortgage.
Under these circumstances, we hold that while no completed
tender of payment and consignation took place sufficient to constitute
payment, the spouses Go Cinco duly established that they have legitimately
secured a means of paying off their loan with MTLC; they were only
prevented from doing so by the unjust refusal of Ester to accept the
proceeds of the PNB loan through her refusal to execute the release of the
mortgage on the properties mortgaged to MTLC. In other words, MTLC
and Ester in fact prevented the spouses Go Cinco from the exercise of their
right to secure payment of their loan.
Since payment was available and was unjustifiably refused,
justice and equity demand that the spouses Go Cinco be freed from the
obligation to pay interest on the outstanding amount from the time the
unjust refusal took place.
Article 1234. If the obligation has been substantially
performed in good faith, the obligor may recover as though there has
been strict and complete fulfilment, less damages suffered by the
obligee.
This Article talks about Substantial Performance in
Good Faith. Substantial performance of the obligation is not
complete performance. It constitutes a breach of the obligation if
not for the legal treatment that when such performance occurs, the
obligor may recover as though there had been strict and complete
fulfillment, less damages suffered by the obligee. In giving the
obligee the right to be given damages, the law recognizes the fact
that the obligee has been injured and damaged, and that there has
been no waiver of such injury or damage by the said obligee.
However, the breach in this case is not a material one enough to
compel the obligor to rescind the whole obligation. Hence, for the
doctrine of substantial performance to apply, the part unperformed
must not destroy the value or purpose of the contract.
When is Article 1234 applicable?
Said provision applies only when an obligor admits
breaching the contract after honestly and faithfully performing all
the material elements thereof except for some technical aspects that
cause no serious harm to the obligees. By reason of the
inconsequential nature of the breach or omission, the law deems
the performance as substantial, making it the obligee’s duty to
pay. The compulsion of payment is predicated on the substantial
benefit derived by the obligee from the partial performance.
Although compelled to pay, the obligee is nonetheless entitled to
an allowance for the sum required to remedy omissions or defects
and to complete the work agreed upon. Conversely, the principle of
substantial performance is inappropriate when the incomplete
performance constitutes a material breach of the contract. A
contractual breach is material if it will adversely affect the nature
of the obligation that the obligor promised to deliver, the benefits
that the obligee expects to receive after full compliance, and the
extent that the non-performance defeated the purposes of the
contract [International Hotel Corp. v. Joaquin Jr].
Tolentino explains the character of the obligor’s breach
under Article 1234 in the following manner, to wit:
In order that there may be substantial performance of an
obligation, there must have been an attempt in good faith to perform,
without any willful or intentional departure therefrom. The deviation from
the obligation must be slight, and the omission or defect must be technical
3|Page
and unimportant, and must not pervade the whole or be so material that the
object which the parties intended to accomplish in a particular manner is
not attained. The non-performance of a material part of a contract will
prevent the performance from amounting to a substantial compliance.
The party claiming substantial performance must show that he
has attempted in good faith to perform his contract, but has through
oversight, misunderstanding or any excusable neglect failed to completely
perform in certain negligible respects, for which the other party may be
adequately indemnified by an allowance and deduction from the contract
price or by an award of damages. But a party who knowingly and wilfully
fails to perform his contract in any respect, or omits to perform a material
part of it, cannot be permitted, under the protection of this rule, to compel
the other party, and the trend of the more recent decisions is to hold that the
percentage of omitted or irregular performance may in and of itself be
sufficient to show that there had not been a substantial performance.
Article 1235. When the oblige accepts the performance
knowing its incompleteness or irregularity, and without expressing any
protest or objection, the obligation is deemed fully complied with.
Unlike in Article 1234, the substantial compliance
contemplated in Article 1235 connotes the waiver of the obligee of
damages arising from the breach of contract which resulted in the
incompleteness or irregularity of the obligation. By not expressing
any protest or objection, the obligee accepts the performance of the
obligation as fully complied with despite his knowledge of such
irregularity or incompleteness.
Article 1236. The creditor is not bound to accept payment or
performance by a third person who has no interest in the fulfilment of
the obligation, unless there is a stipulation to the contrary.
Whoever pays for another may demand from the debtor
what he has paid, except that if he paid without the knowledge or
against the will of the debtor, he can recover only insofar as the
payment has been beneficial to the debtor.
Article 1237. Whoever pays on behalf of the debtor without
the knowledge or against the will of the latter, cannot compel the
creditor to subrogate him in his rights, such as those arising from a
mortgage, guaranty, or penalty.
Article 1238. Payment made by a third person who does not
intend to be reimbursed by the debtor is deemed to be a donation,
which requires the debtor’s consent. But the payment is in any case
valid as to the creditor who has accepted it.
The creditor can refuse payment by a stranger (3 rd
person) except:
(1) If there is a stipulation allowing this; or
(2) If said third person has an interest in the fulfilment
of the obligation.
Payment made by a third person and accepted by the
creditor can extinguish indebtedness or an obligation. The good
faith or the bad faith of the third person is immaterial. However,
whether or not the one who paid completely acquires the rights of
the creditor as against the debtor depends on whether or not the
payment has been made without knowledge or against the will of
the debtor. Hence, the following situations can arise:
1) If a third person pays the creditor without the
knowledge or against the will of the debtor, the third person
can only recover from the debtor to the extent that the debtor
has been benefited. As to what is beneficial to the debtor can be
invoked only by such debtor and not the creditor. Whether or not it
is beneficial to the debtor is determined by the law and not the will
of the debtor. The beneficial effects must be determined at the time
the payment was made. The third person cannot compel the
creditor to subrogate him in his rights, such as those arising from a
mortgage, guaranty or penalty. Hence, if A is indebted to B in the
amount of P500,000 secured by a real estate mortgage on the house
of A, and X pays B the said indebtedness in the amount of
P500,000 without the knowledge or against the will of A, X can
only recover the amount of P500,000 but he cannot compel the
creditor to transfer the mortgage to him. Hence, in case A does not
pay X, X cannot foreclose on the mortgage to satisfy his claim.
However, if the third party who paid is interested in the obligation,
such as a guarantor, surety, or co-debtor, legal subrogation is
presumed and therefore such interested third party-payor can have
the right even as to the accessory obligations such as a mortgage.
However, the presumption is rebuttable. Legal subrogation
transfers to the person subrogated the credit with all the rights
thereto appertaining, either against the debtor or against third
persons, be they guarantors, or possessors of mortgages.
2) If a third person pays the creditor with the
knowledge of the debtor, but over the latter’s objection, then
the effect is the same as in No. 1 because the situation is clearly
against the will of the debtor.
3) If the third person pays the creditor with the
knowledge and consent of the debtor, the third person can
recover from the debtor the amount he paid to the creditor. He
can likewise compel the creditor to transfer to him any
mortgage, guaranty or penalty. In this case there is legal
subrogation which transfers to the person subrogated the credit
with all the rights thereto appertaining, either against the debtor or
against third persons, be they guarantors, or possessors of
mortgages. Subrogation means the act of putting somebody into
the shoes of the creditor, hence, enabling the former to exercise all
the rights and actions that could have been exercised by the latter.
In the example given in No. 1, X can recover P500,000.
X can likewise compel the creditor to transfer to him the real estate
mortgage of A so that, if the latter does not pay, X can foreclose on
the mortgage to satisfy his claim.
This also applies when there is a tacit approval of the
debtor.
Jalandoni v. Encomieda
Held: Whoever pays for another may demand from the debtor
what he has paid, except that if he paid without the knowledge or against
the will of the debtor, he can recover only insofar as the payment has
been beneficial to the debtor.
Clearly, Jalandoni greatly benefited from the purportedly
unauthorized payments. Thus, even if she asseverates that Encomienda'is
payment of her household bills was without her knowledge or against her
will, she cannot deny the fact that the same still inured to her benefit and
Encomienda must therefore be consequently reimbursed for it. Also, when
Jalandoni learned about the payments, she did nothing to express her
objection to or repudiation of the same, within a reasonable time. Even
when she claimed that she was prepared with her own money, she still
accepted the financial assistance and actually made use of it. While she
asserts to have been upset because of Encomienda's supposedly intrusive
actions, she failed to protest and, in fact, repeatedly accepted money from
her and further allowed her to pay her driver, security guard, househelp, and
bills for her cellular phone, cable television, pager, gasoline, food, and
other utilities. She cannot, therefore, deny the benefits she reaped from said
acts now that the time for restitution has come. The debtor who knows that
another has paid his obligation for him and who does not repudiate it at any
time, must corollarily pay the amount advanced by such third person.
4) If the creditor accepts payment from a third person
because this has been allowed in his contract with the debtor,
4|Page
then clearly the debtor agrees with such payment beforehand,
and therefore the effect is the same as in No. 3.
5) If the third person pays the creditor without
intending to be reimbursed by the debtor, the obligation is
extinguished whether or not the consent of the debtor is
obtained. The payment will be treated as a donation which
requires the debtor’s consent. A is indebted to B. X pays B the
said indebtedness without intending to be paid back by A. This will
be treated as a donation and hence A should accept the payment
made by X. If A does not consent or accept the payment made by
X, the obligation nevertheless will be extinguished in so far as B is
concerned.
Subrogation distinguished from Reimbursement
In subrogation, recourse can be had to the mortgage or
guaranty or pledge; in reimbursement, there is no such recourse.
In subrogation, the debt is extinguished in one sense, but
a new creditor, with exactly the same rights the old one, appears on
the scene. In reimbursement, the new creditor has different rights,
so it is as if there has indeed been an extinguishment of the
obligation.
In subrogation, there is something more than a personal
action of recovery; in reimbursement, there is only a personal
action to recover the amount.
Article 1239. In obligations to give, payment made by one
who does not have the free disposal of the thing due and capacity to
alienate it shall not be valid, without prejudice to the provisions of
Article 1427 under the Title on “Natural Obligations.”
General rule - If the person has no capacity to give:
(a) Payment is not valid if accepted;
(b) Creditor cannot be compelled to accept it;
(c) Remedy of consignation would not be proper.
Exception: When a minor between eighteen and twenty-
one years of age. Who has entered into a contract without the
consent of the parents or guardians voluntarily pays a sum of
money or delivers a fungible thing in fulfilment of the obligation,
here shall be no right to recover the same from the oblige who has
spent or consumed it in good faith [Art. 1427, NCC].
Article 1240. Payment shall be made to the person in whose
favor the obligation has been constituted or his successor in interest, or
any person authorized to receive it.
To whom payment shall be made:
(a) To the person in whose favor the obligation has
been constituted (the creditor)
NOTE: This refers to the creditors at the time of
payment, not the original creditor at the time the obligation was
constituted.
(b) To the successor –in-interest (heirs)
(c) To any person authorized to receive it.
Culaba v. Court of Appeals
Held: Payment is a mode of extinguishing an obligation. Article
1240 of the Civil Code provides that payment shall be made to the person
in whose favor the obligation has been constituted, or his successor-in-
interest, or any person authorized to receive it. [21] In this case, the payments
were purportedly made to a “supervisor” of the private respondent, who
was clad in an SMC uniform and drove an SMC van. He appeared to be
authorized to accept payments as he showed a list of customers’
accountabilities and even issued SMC liquidation receipts which looked
genuine. Unfortunately for petitioner Francisco Culaba, he did not ascertain
the identity and authority of the said supervisor, nor did he ask to be shown
any identification to prove that the latter was, indeed, an SMC supervisor.
The petitioners relied solely on the man’s representation that he was
collecting payments for SMC. Thus, the payments the petitioners claimed
they made were not the payments that discharged their obligation to the
private respondent.
The basis of agency is representation. A person dealing with an
agent is put upon inquiry and must discover upon his peril the authority of
the agent. In the instant case, the petitioners’ loss could have been avoided
if they had simply exercised due diligence in ascertaining the identity of the
person to whom they allegedly made the payments. The fact that they were
parting with valuable consideration should have made them more
circumspect in handling their business transactions. Persons dealing with an
assumed agent are bound at their peril to ascertain not only the fact of
agency but also the nature and extent of authority, and in case either is
controverted, the burden of proof is upon them to establish it. The
petitioners in this case failed to discharge this burden, considering that the
private respondent vehemently denied that the payments were accepted by
it and were made to its authorized representative.
Negligence is the omission to do something which a reasonable
man, guided by those considerations which ordinarily regulate the conduct
of human affairs, would do, or the doing of something, which a prudent and
reasonable man would not do. [25] In the case at bar, the most prudent thing
the petitioners should have done was to ascertain the identity and authority
of the person who collected their payments. Failing this, the petitioners
cannot claim that they acted in good faith when they made such payments.
Their claim therefor is negated by their negligence, and they are bound by
its consequences. Being negligent in this regard, the petitioners cannot seek
relief on the basis of a supposed agency.
Payment made by the debtor to a wrong party does not
extinguish the obligation as to the creditor, if there is no fault or
negligence which can be imputed to the latter. Even when the
debtor acted in utmost good faith and by mistake as to the person
of his creditor, or through error induced by the fraud of a third
person, the payment to one who is not in fact his creditor, or
authorized to receive such payment, is void, except as provided in
Article 1241. Such payment does not prejudice the creditor, and
accrual of interest is not suspended by it [Allied Banking v. Lim Sio
Wan].
Article 1241. Payment to a person who is incapacitated to
administer his property shall be valid if he has kept the thing delivered,
or insofar as the payment has been beneficial to him.
Payment made to a third person shall also be valid insofar as
it has redounded to the benefit of the creditor. Such benefit to the
creditor need not be proved in the following cases:
(1) If after the payment, the third person acquires the
creditor’s rights;
(2) If the creditor ratifies the payment to the third person;
(3) If by the creditor’s conduct, the debtor has been led to
believe that the third person had authority to receive the payment.
First Paragraph – Payment to an incapacitated
person is valid only:
1. If the incapacitated person has kept the thing delivered; or
2. Insofar as the payment has been beneficial to him.
Second Paragraph – Payment to a third party not
duly authorized
1. The payment is valid but only to the extent of benefit to
the creditor. The payment must be proved, and is,
therefore, not presumed except in the three instances
provide for in the second paragraph.
2. Benefit to the creditor is presumed:
(a) If after the payment the third person acquires the
creditor’s rights
5|Page
(b) If the creditor ratifies the payment to the third person;
(c) If by the creditor’s conduct, the debtor has been led to
make the payment.
Article 1242. Payment made in good faith to any person in
possession of the credit shall release the debtor. (VIP)
Requisites:
a. Payment by payor must be made good faith
b. The payee must be in possession of the credit itself.
A person in possession of the credit is presumed to own
the credit and hence, a debtor who pays such person in good faith
shall be released from the debt. Whether the creditor willfully,
unintentionally or negligently allowed a third person to possess the
credit does not matter in so far as the debtor who paid in good faith
is concerned. The risk is always on the creditor provided payment
is made by the debtor in good faith. If payment is made to a person
who is not in possession of the credit, the debtor will not be
released from his obligation regardless of whether or not payment
was made in good faith.
NPC v. Ibrahim
Held: Article 1242 of the Civil Code is an exception to the rule
that a valid payment of an obligation can only be made to the person to
whom such obligation is rightfully owed. It contemplates a situation where
a debtor pays a “possessor of credit” i.e., someone who is not the real
creditor but appears, under the circumstances, to be the real creditor. In
such scenario, the law considers the payment to the “possessor of credit” as
valid even as against the real creditor taking into account the good faith of
the debtor.
Borrowing the principles behind Article 1242 of the Civil Code,
we find that Mangondato—being the judgment creditor in Civil Case No.
605-92 and Civil Case No. 610-92 as well as the registered owner of the
subject land at the time—may be considered as a “possessor of credit” with
respect to the rental fees and expropriation indemnity adjudged due for the
subject land in the two cases, if the Ibrahims and Maruhoms turn out to be
the real owners of the subject land. Hence, petitioner’s payment to
Mangondato of the fees and indemnity due for the subject land as a
consequence of the execution of Civil Case No. 605-92 and Civil Case No.
610-92 could still validly extinguish its obligation to pay for the same even
as against the Ibrahims and Maruhoms.
Article 1243. Payment made to the creditor by the debtor
after the latter has been judicially ordered to retain the debt shall not
be valid.
In order to protect other creditors of the debtor and to
prevent any transaction which might be intended to defraud said
creditors, the debtor is prohibited from paying a particular creditor
during the effectivity of a court order prohibiting him to make such
payment to that particular creditor. In the event that the debtor
makes such payment, it shall not extinguish the obligation as the
law considers such payment as void.
Article 1244. The debtor of a thing cannot compel the
creditor to receive a different one, although the latter may be of the
same value as, or more valuable than that which is due.
In obligations to do or not to do, an act or forbearance
cannot be substituted by another act or forbearance against the
obligee’s will.
Unless the prestation is subject to an alternative or
facultative condition, a debtor has no choice in the payment of his
obligation except by giving what has been agreed upon by the
parties. Hence he cannot pay by giving a particular car if the
agreement is to give a particular jeep even if the car is more
expensive than the jeep. Likewise, if one has been engaged to sing
for one night in exchange for an airplane ticket, the obligor cannot
fulfill the obligation by dancing for one week even if such dancing
is worth more than the singing.
Another instance when Article 1244 does not apply is
when there is another agreement resulting in either:
(a) Dation in payment (1245); or
(b) Novation (1291).
Article 1245. Dation in payment, whereby property is
alienated to the creditor in satisfaction of a debt in money, shall be
governed by the law of sales.
There is payment when there is delivery of money or
performance of an obligation. Article 1245 of the Civil Code
provides for a special mode of payment called dation in payment
(dación en pago). There is dation in payment when property is
alienated to the creditor in satisfaction of a debt in money. Here,
the debtor delivers and transmits to the creditor the former's
ownership over a thing as an accepted equivalent of the payment or
performance of an outstanding debt. In such cases, Article 1245
provides that the law on sales shall apply, since the undertaking
really partakes - in one sense - of the nature of sale; that is, the
creditor is really buying the thing or property of the debtor, the
payment for which is to be charged against the debtor's
obligation. Dation in payment extinguishes the obligation to the
extent of the value of the thing delivered, either as agreed upon by
the parties or as may be proved, unless the parties by agreement -
express or implied, or by their silence - consider the thing as
equivalent to the obligation, in which case the obligation is totally
extinguished [Tan Shuy v. Maulawin].
Requisites:
1. There must be an existence of a monetary obligation or
a subsisting debt in the form of money.
2. The alienation to the creditor of a property made by
the debtor.
3. There must be acceptance or consent on the part of the
creditor to receive that property.
4. The property alienated must be in satisfaction of the
monetary obligation.
5. It must not prejudice other creditors and that the
debtors must not be judicially declared insolvent at the time of the
making of the dation in payment.
Estanislao v. East West Banking
Held: The deed of assignment was a perfected agreement which
extinguished petitioners’ total outstanding obligation to the respondent. The
deed explicitly provides that the assignor (petitioners), “in full payment”
of its obligation in the amount of P7,305,459.52, shall deliver the three
units of heavy equipment to the assignee (respondent), which “accepts the
assignment in full payment of the above-mentioned debt.” This could
only mean that should petitioners complete the delivery of the three units of
heavy equipment covered by the deed, respondent’s credit would have been
satisfied in full, and petitioners’ aggregate indebtedness of P7,305,459.52
would then be considered to have been paid in full as well.
The nature of the assignment was a dation in payment, whereby
property is alienated to the creditor in satisfaction of a debt in money. Such
transaction is governed by the law on sales. [6] Even if we were to consider
the agreement as a compromise agreement, there was no need for
respondent’s signature on the same, because with the delivery of the heavy
equipment which the latter accepted, the agreement was consummated.
Respondent’s approval may be inferred from its unqualified acceptance of
the heavy equipment.
6|Page
As a mode of payment, dacion en pago extinguishes the
obligation to the extent of the value of the thing delivered, either as
agreed upon by the parties or as may be proved, unless the parties
by agreement—express or implied, or by their silence—consider
the thing as equivalent to the obligation, in which case the
obligation is totally extinguished. [65] It requires delivery and
transmission of ownership of a thing owned by the debtor to the
creditor as an accepted equivalent of the performance of the
obligation. There is no dacion in payment when there is no transfer
of ownership in the creditor's favor, as when the possession of the
thing is merely given to the creditor by way of security.
Dalisay Investments v. SSS
Held: In the case at hand, in order to determine whether or not
there was indeed a perfected, or even consummated, dacion in payment, it
is necessary to review and assess the evidence and events that transpired
and see whether these correspond to the three stages of a contract of sale.
This is so since, as previously mentioned, dacion en pago agreements are
governed, among others, by the law on sales.
Stages of a contract of sale
Briefly, the stages of a contract of sale are: (1) negotiation,
covering the period from the time the prospective contracting parties
indicate interest in the contract to the time the contract is perfected;
(2) perfection, which takes place upon the concurrence of the essential
elements of the sale, which is the meeting of the minds of the parties as to
the object of the contract and upon the price; and (3) consummation, which
begins when the parties perform their respective undertakings under the
contract of sale, culminating in the extinguishment thereof.
First Stage: Negotiation Offer validly reduced
To recall, the negotiation stage covers the period from the time
the prospective contracting parties indicate interest in the contract to the
time the contract is perfected. This then includes the making of an offer by
one party to another and ends when both parties agree on the object and the
price.
Second Stage: Perfection Acceptance absolute and unqualified
Under the law, a contract is perfected by mere consent, that is,
from the moment that there is a meeting of the offer and the acceptance
upon the thing and the cause that constitutes the contract. The law requires
that the offer must be certain and the acceptance absolute and unqualified
Third Stage: Consummation
While a contract of sale is perfected by mere consent, ownership
of the thing sold is acquired only upon its delivery to the buyer. Upon the
perfection of the sale, the seller assumes the obligation to transfer
ownership and to deliver the thing sold, but the real right of ownership is
transferred only "by tradition" or delivery thereof to the buyer.
Sale distinguished from Dation in Payment
SALE DATION IN PAYMENT
(a) There is no pre- There is a pre-existing credit.
existing credit
(b) This gives rise to This extinguishes obligations
obligations
(c) The cause or The cause or consideration
consideration here is here, from the viewpoint of the
the PRICE or the debtor in dation in payment is
OBJECT. the extinguishment of his debt;
from the viewpoint of the
creditor, it is the acquisition of
the object offered in credit
(d) There is greater There is less freedom in
freedom in the determining the price
determination of the
price.
(e) The giving of the The giving of the object in lieu
price may generally of the credit may extinguish
end the obligation of completely or only partially the
the buyer. credit depending on the
agreement.
 Article 1246. When the obligation consists in the delivery of
an indeterminate or generic thing, whose quality and circumstances
have not been stated, the creditor cannot demand a thing of superior
quality. Neither can the debtor deliver a thing of inferior quality. The
purpose of the obligation and other circumstances shall be taken into
consideration.
Obligations must be complied with in good faith and any
act which tends to implement an obligation in a manner which is
not consistent with its goals or purposes should always be
discouraged. Hence, if an obligor, who is not rich, is bound to
deliver any rented carto be used at a very simple wedding
ceremony and the obligee knows the financial capacity of the
obligor, such obligee cannot demand that the obligor comply with
his obligation by delivering a multi-million Rolls Royce which
could only be rented at such amount which the obligor cannot
afford. On the other hand, the obligor cannot deliver a car which is
so old that it would not start unless it is pushed.
With regards to what must be paid or performed, we have
to make a distinction between real obligation and personal
obligation. Under Article 1244 par 1, it pertains to determinate
things or specific things. Obligor must give the determinate or
specific thing and not anything else. Under Article 1246,
pertaining to generic things, the obligor is not compelled to give
anything of superior quality, nor is he allowed to give something of
inferior quality. With respect to generic things we follow the
medium quality rule under Art. 1246.
Article 1244 paragraph 2 is applicable to personal
obligations, in obligations to do and not to do. Article 1244
paragraph 1 espouses the 1st characteristic of payment – identity.
You cannot give anything else in fulfillment of the obligation other
than the agreed upon prestation. Otherwise, if you pay or perform
something else that will not give the effect of extinguishing the
obligation. The creditor cannot be compelled to receive a different
thing than that which has been agreed upon or which is the object
of the obligation. Same as in Art. 1244 par 2. The creditor cannot
be compelled to accept performance of any other act or forbearance
other than that agreed upon in obligations to do or not to do.
1247. Unless it is otherwise stipulated, the extrajudicial
expenses required by the payment shall be for the account of the
debtor. With regard to judicial costs, the Rules of Court shall govern.
Rule: The debtor has to pay for the extrajudicial expenses
incurred during the payment.
Article 1248. Unless there is an express stipulation to that
effect, the creditor cannot be compelled partially to receive the
prestations in which the obligation consists. Neither may the debtor be
required to make partial payments.
However, when the debt is in part liquidated and in part
unliquidated, the creditor may demand and the debtor may effect the
payment of the former without waiting for the liquidation of the latter.
Performance should generally be complete. Under
Article 1233, a debt shall not be understood to have been paid
unless the thing or service in which the obligation consists has been
completely delivered or rendered as the case may be. Hence, partial
performance is not allowed generally under Article 1248.
Exceptions:
(a) When there is stipulation to this effect
(b) When the different prestations are subject to different
conditions or different terms;
7|Page
(c) When a debt is in part liquidated and in part unliquidated in
which case performance of the liquidated part may be insisted
upon either by the debtor or the creditor;
(d) When a joint debtor pays his share or the creditor demands the
same;
(e) When a solidary debtor pays only the part demandable
because the rest are not yet demandable on account of their
being subject to different terms and conditions;
(f) In case of compensation, when one debt is larger than the
other, it follows that a balance is left;
(g) When work is to be done by parts.
Article 1249. The payment of debts in money shall be made
in the currency stipulated, and if it is not possible to deliver such
currency, then in the currency which is legal tender in the Philippines.
The delivery of promissory notes payable to order, or bills of
exchange or other mercantile documents shall produce the effect of
payment only when they have been cashed, or when through the fault
of the creditor they have been impaired.
In the meantime, the action derived from the original
obligation shall be held in abeyance.
First Paragraph
Legal tender is defined as that which a debtor may
compel a creditor to accept in payment of the debt. sUnder the old
Republic Act 529, otherwise known as the Uniform Currency Act,
it was prohibited to use foreign currency in connection with certain
contracts in the Philippines.
However, RA 529 has also been impliedly amended by
RA 4100, which provided for certain exceptions. In order to spur
foreign investments domestically, there are certain exceptions
where transactions are allowed to be paid in foreign currency.
Republic Act No. 529 has already been repealed by
Republic Act Number 8183 which took effect on July 6, 1996. This
law specifically provides that all monetary obligations shall be
settled in Philippine currency which is legal tender in the
Philippines. However, the parties may agree that the obligation or
transaction shall be settled in any other currency at the time of
payment.
Second Paragraph
The law is very specific that, in fulfillment of an
obligation by payment of money, only payment in cash will
extinguish the obligation. If promissory notes, bills of exchange or
checks are given to pay a debt, such debt will not be extinguished
unless these mercantile documents are encashed.
It is a settled rule that the creditor's possession of the
evidence of debt is proof that the debt has not been discharged by
payment. It is likewise an established tenet that a negotiable
instrument is only a substitute for money and not money, and the
delivery of such an instrument does not, by itself, operate as
payment. Thus, in BPI v. Spouses Royeca, we ruled that despite the
lapse of three years from the time the checks were issued, the
obligation still subsisted and was merely suspended until the
payment by commercial document could actually be realized.
However, payment is deemed effected and the obligation for which
the check was given as conditional payment is treated discharged,
if a period of 10 years or more has elapsed from the date indicated
on the check until the date of encashment or presentment for
payment. The failure to encash the checks within a reasonable time
after issue, or more than 10 years in this instance, not only results
in the checks becoming stale but also in the obligation to pay being
deemed fulfilled by operation of law.
A check must be presented for payment within a
reasonable time after its issue or the drawer will be discharged
from liability thereon to the extent of the loss caused by the
delay.
Evangelista v. Screenex
Held: Granting that petitioner had never encashed the check, his
failure to do so for more than ten (10) years undoubtedly resulted in the
impairment of the check through his unreasonable and unexplained delay.
While it is true that the delivery of a check produces the effect
of payment only when it is cashed, pursuant to Art. 1249 of the Civil Code,
the rule is otherwise if the debtor is prejudiced by the creditor's
unreasonable delay in presentment. The acceptance of a check implies an
undertaking of due diligence in presenting it for payment, and if he
from whom it is received sustains loss by want of such diligence, it will
be held to operate as actual payment of the debt or obligation for which
it was given. It has, likewise, been held that if no presentment is made at
all, the drawer cannot be held liable irrespective of loss or injury unless
presentment is otherwise excused. This is in harmony with Article 1249 of
the Civil Code under which payment by way of check or other negotiable
instrument is conditioned on its being cashed, except when through the
fault of the creditor, the instrument is impaired. The payee of a check would
be a creditor under this provision and if its no-payment is caused by his
negligence, payment will be deemed effected and the obligation for which
the check was given as conditional payment will be discharged.
Similarly in this case, we find that the delivery of the checks,
despite the subsequent failure to encash them within a period of 10 years or
more, had the effect of payment. Petitioner is considered discharged from
his obligation to pay and can no longer be pronounced civilly liable for the
amounts indicated thereon.
Article 1250. In case an extraordinary inflation or deflation
of the currency stipulated should supervene, the value of the currency
at the time of the establishment of the obligation shall be the basis of
payment, unless there is an agreement to the contrary.
Extraordinary inflation exists when there is an unusual
decrease in the purchasing power of currency (that is, beyond the
common fluctuation in the value of currency) and such decrease
could not be reasonably foreseen or was manifestly beyond the
contemplation of the parties at the time of the obligation.
Extraordinary deflation, on the other hand, involves an inverse
situation.
Requisites:
1. There must be an official declaration extraordinary
inflation or deflation of the Bangko Sentral ng Pilipinas.
2. That this obligation was contractual in nature.
3. The parties expressly agreed to consider the effects of
extraordinary inflation or deflation.
Equitable PCI v. Ng Sheung Ngor
Held: Despite the devaluation of the peso, the BSP never
declared a situation of extraordinary inflation. Moreover, although the
obligation in this instance arose out of a contract, the parties did not agree
to recognize the effects of extraordinary inflation (or deflation). The RTC
never mentioned that there was a such stipulation either in the promissory
note or loan agreement. Therefore, respondents should pay their dollar-
denominated loans at the exchange rate fixed by the BSP on the date of
maturity.
Article 1251. Payment shall be made in the place designated
in the obligation.
There being no express stipulation and if the undertaking is
to deliver a determinate thing, the payment shall be made wherever the
thing might be at the moment the obligation was constituted.
In any other case the place of payment shall be the domicile
of the debtor.
If the debtor changes his domicile in bad faith or after he
has incurred in delay, the additional expenses shall be borne by him.
8|Page
These provisions are without prejudice to venue under the
Rules of Court.
Where payment must be made
(a) If there is a stipulation, the place designated
(b) If there is no stipulation
1. If it is an obligation to deliver a determinate thing, then
in the place where the thing might be usually or
habitually at the time the obligation was constituted.
2. If the obligation is any other thing, delivery must be
made at the domicile of the debtor.
The additional expenses attendant in making payment
shall be borne by the debtor in the event that he changes his
domicile in bad faith, such as if the change was made precisely for
the creditor not to locate him, or after he has incurred in delay.
Subsection 1
APPLICATION OF PAYMENTS
Article 1252. He who has various debts of the same kind in
favor of one and the same creditor, may declare at the time of making
the payment, to which of them the same must be applied. Unless the
parties so stipulate, or when the application of payment is made by the
party for whose benefit the term has been constituted, application shall
not be made as to debts which are not yet due.
If the debtor accepts from the creditor a receipt in which an
application of the payment is made, the former cannot complain of the
same, unless there is a cause for invalidating the contract.
Application of payments is defined as the designation of
the debt to which should be applied a payment made by a debtor
who owes several debts in favor of the same creditor.
Requisites:
1. There must be two or more debts of the same kind;
2. The debts are owed by the same debtor in favor of
the same creditor.
3. All the debts must be due and demandable.
It must be pointed out that the rule on application of
payment by the debtor must conform to the general rules on
payment provided for from Articles 1232 up to 1251. Thus, if the
debtor makes a declaration as to the particular debt (from among a
number of debts) to which his payment is to be applied, the creditor
can validly refuse such declaration or application if the payment is
to be applied to a debt which will only partially pay the particular
indebtedness. This is so because, according to Article 1233,
payment must, as a general rule, be always completely delivered or
rendered, and, according to Article 1248, the creditor cannot be
compelled partially to receive the prestation in which the obligation
consists. The debtor must apply the payment to an indebtedness
which, through such application, shall be completely extinguished.
The debtor's right to apply payment is not mandatory.
This is clear from the use of the word "may" rather than the word
"shall" in the provision which reads: "He who has various debts of
the same kind in favor of one and the same creditor, may declare at
the time of making the payment, to which of the same must be
applied." Article 1252 gives the right to the debtor to choose to
which of several obligations to apply a particular payment that he
tenders to the creditor. But likewise granted in the same provision
is the right of the creditor to apply such payment in case the debtor
fails to direct its application. A debtor, in making a voluntary
payment, may at the time of payment direct an application of it to
whatever account he chooses, unless he has assigned or waived that
right. If the debtor does not do so, the right passes to the creditor,
who may make such application as he chooses. But if neither party
has exercised its option, the court will apply the payment according
to the justice and equity of the case, taking into consideration all its
circumstances [Premiere Dev’t Bank v. Central Surety].
Tan v. China Banking
Held: In the event that the debtor failed to exercise the right to
elect the creditor may choose to which among the debts the payment is
applied as in the case at bar. It is noteworthy that after the sale of the
foreclosed properties at the public auction, Lorenze Realty failed to
manifest its preference as to which among the obligations that were all due
the proceeds of the sale should be applied. Its silence can be construed as
acquiescence to China Bank's application of the payment first to the interest
and penalties and the remainder to the principal which is sanctioned by
Article 1253 of the New Civil Code which provides that:,
Art. 1253. If the debt produces interest, payment of the principal
shall not be deemed to have been made until the interests have been
covered.
That they assume that the obligation is fully satisfied by the sale
of the securities does not hold any water. Nowhere in our statutes and
jurisprudence do they provide that the sale of the collaterals constituted as
security of the obligation results in the extinguishment of the obligation.
The rights and obligations of parties are governed by the terms and
conditions of the contract and not by assumptions and presuppositions of
the parties. The amount of their entire liability should be computed on the
basis of the rate of interest as imposed by the CA minus the proceeds of the
sale of the foreclosed properties in public auction.
Sinamban v. China Banking
Held: But as the Court has noted, by deducting the auction
proceeds from the aggregate amount of the three loans due, Chinabank in
effect opted to apply the entire proceeds of the auction simultaneously to all
the three loans. This implies that each PN will assume a pro rata portion of
the resulting deficiency on the total indebtedness as bears upon each PN's
outstanding balance. Contrary to the spouses Sinamban's insistence, none of
the three PNs is more onerous than the others to justify applying the
proceeds according to Article 1254 of the Civil Code, in relation to Articles
1252 and 1253. Since each loan, represented by each PN, was obtained
under a single credit line extended by Chinabank for the working capital
requirements of the spouses Manalastas' rice milling business, which credit
line was secured also by a single REM over their properties, then each PN
is simultaneously covered by the same mortgage security, the foreclosure of
which will also benefit them proportionately. No PN enjoys any priority or
preference in payment over the others, with the only difference being that
the spouses Sinamban are solidarity liable for the deficiency on two of
them.
Application of payment cannot be made on debts which
are not yet due, unless the parties agree or when the application of
payment is made by the party, which may either be the debtor or
the creditor, for whose benefit the term has been constituted. For
example, A is indebted to B in the amount of P1,000, P2,000 and
P900 which will not earn interest if paid on January 2, 1997 but
will earn interest from February 2, 1997, the latter date being the
second due date if the debtor chooses not to pay on January 2,
1997. Clearly the period prior to January 2, 1997 is for the benefit
of the debtor, and therefore, if he decides to give B P500 before
January 2, 1997, the choice of application belongs to him. If the
creditor is agreeable to be partially paid, the debtor can apply the
P500 to the P1,000, P2,000 or P900 depending on his choice even
if the indebtedness is not yet due. It is clear that in such a case,
whether he pays it on or before January 2, 1997 will not make any
difference in so far as the debtor or creditor is concerned because
no interest is imposed.
Premier Dev’t Bank v. Central Surety
9|Page
Held: In the case at bench, the records show that Premiere Bank
and Central Surety entered into several contracts of loan, securities by way
of pledges, and suretyship agreements. In at least two (2) promissory notes
between the parties, Promissory Note No. 714-Y and Promissory Note No.
376-X, Central Surety expressly agreed to grant Premiere Bank the
authority to apply any and all of Central Surety's payments, thus:
In case I/We have several obligations with [Premiere Bank], I/We hereby
empower [Premiere Bank] to apply without notice and in any manner it sees fit, any or
all of my/our deposits and payments to any of my/our obligations whether due or not.
Any such application of deposits or payments shall be conclusive and binding upon us.
The law likewise provides that if the debtor accepts from
the creditor a receipt in which an application of payment is made,
the former cannot complain of the same, unless there is a cause for
invalidating the contract. It must be noted that the debtor must not
only merely receive the receipt but he must accept the receipt.
Thus, if A is indebted to B for P1,000, P2,000, and P900, and A
pays B P500 without mentioning as to which debt the P500 will be
applied and if B, the creditor, is agreeable to any partial payment,
and issues a receipt indicating therein that the P500 shall be applied
to the P1,000 debt, and A readily accepts the said receipt, A cannot
later complain that the P500 should have been applied to the
P2,000 debt unless there exists a cause to invalidate the contract in
connection with the indebtedness in the amount of P1,000. This is
based on the doctrine of estoppel. However, if the indebtedness has
been obtained through fraud or intimidation which is a cause to
annul the contract, the debtor is not estopped from questioning the
application.
Article 1253. If the debt produces interest, payment of the
principal shall not be deemed to have been made until the interests
have been covered.
Interest must first be paid. The Article is obligatory, that
is, the debtor cannot insist that his payment be credited to the
principal instead of the interest, except when the creditor agrees.
Marquez v. Elisan Credit
Article 1176 vis-à-vis Article 1253
The structuring of these provisions, properly taken into account,
means that Article 1176 should be treated as a general presumption subject
to the more specific presumption under Article 1253. Article 1176 is
relevant on questions pertaining to the effects and nature of obligations in
general, while Article 1253 is specifically pertinent on questions involving
application of payments and extinguishment of obligations.
The presumption under Article 1176 does not resolve the
question of whether the amount received by the creditor is a payment for
the principal or interest. Under this article the amount received by the
creditor is the payment for the principal, but a doubt arises on whether or
not the interest is waived because the creditor accepts the payment for the
principal without reservation with respect to the interest. Article 1176
resolves this doubt by presuming that the creditor waives the payment of
interest because he accepts payment for the principal without any
reservation.
On the other hand, the presumption under Article 1253 resolves
doubts involving payment of interest-bearing debts. It is a given under this
Article that the debt produces interest. The doubt pertains to the application
of payment; the uncertainty is on whether the amount received by the
creditor is payment for the principal or the interest. Article 1253 resolves
this doubt by providing a hierarchy: payments shall first be applied to the
interest; payment shall then be applied to the principal only after the
interest has been fully-paid.
Correlating the two provisions, the rule under Article 1253 that
payments shall first be applied to the interest and not to the principal shall
govern if two facts exist: (1) the debt produces interest (e.g., the payment of
interest is expressly stipulated) and (2) the principal remains unpaid.
The exception is a situation covered under Article 1176, i.e.,
when the creditor waives payment of the interest despite the presence of (1)
and (2) above. In such case, the payments shall obviously be credited to the
principal.
Article 1254. When payment cannot be applied in
accordance with the preceding rules, or if application cannot be
inferred from other circumstances, the debt which is most onerous to
the debtor, among those due, shall be deemed to have been satisfied.
If the debts due are of the same nature and burden, the
payment shall be applied to all of them proportionately.
Rules in case no application of payment has been
voluntarily made:
1. Apply it to the most onerous
2. If the debts are of the same nature or burden,
application shall be made to all proportionately.
Sinamban v. China Banking
Held: But as the Court has noted, by deducting the auction
proceeds from the aggregate amount of the three loans due, Chinabank in
effect opted to apply the entire proceeds of the auction simultaneously to all
the three loans. This implies that each PN will assume a pro rata portion of
the resulting deficiency on the total indebtedness as bears upon each PN's
outstanding balance. Contrary to the spouses Sinamban's insistence, none of
the three PNs is more onerous than the others to justify applying the
proceeds according to Article 1254 of the Civil Code, in relation to Articles
1252 and 1253. Since each loan, represented by each PN, was obtained
under a single credit line extended by Chinabank for the working capital
requirements of the spouses Manalastas' rice milling business, which credit
line was secured also by a single REM over their properties, then each PN
is simultaneously covered by the same mortgage security, the foreclosure of
which will also benefit them proportionately. No PN enjoys any priority or
preference in payment over the others, with the only difference being that
the spouses Sinamban are solidarity liable for the deficiency on two of
them.
How do we determine which of the debts is the most
onerous? Tolentino gives us these GUIDELINES through
jurisprudence:
1. Where there are various debts which are due and of
different dates, the oldest is more onerous than the more recent
ones. This is because of the running of legal interest. This applies
even if there is no interest stipulated. The interest starts to run
when there is a demand.
2. Where one debt bears and the other one does not, even
though the latter has an earlier date than the former, the one which
bears the interest is more onerous.
3. Where one debt is secured, that debt is more onerous.
4. Where the debtor is bound as principal in one debt and
guarantor or surety in another, the one where he is principal is
more onerous.
5. Where the debtor is solidarily bound in one and sole
debtor in another, the one in which he is solidary debtor is more
onerous.
6. Within a solidary obligation, the share which
corresponds to a solidary debtor would be most onerous to him.
7. Where one obligation is indemnity, while the other is
of penalty, in the case of a penal clause, the one with indemnity is
more onerous. Why? Because indemnity presumes that there is
already a breach.
8. Where one is liquidated while the other is not, the
former is more onerous.
Application of payment and dation in payment,
distinguished.
10 | P a g e
In dation in payment, there is only one obligation. In
application of payment, there are two or more debts. In dation in
payment, some property is given in lieu or in satisfaction or in
payment of a subsisting monetary obligation. In application of
payment, the very object of the obligation is given. In dation in
payment, obligation is extinguished as a whole or partially. In
application of payment, payment is always partial. Dation in
payment is always consensual. In application of payment, the
benefit is always with the debtor, except when the debtor receives a
receipt of application of the payment. As to governing law, dation
in payment is governed by the law on Sales, while in Application
of Payment you go to Articles 1252-1254.
Subsection 2
PAYMENT BY CESSION
Article 1255. The debtor cede or assign his property to his
creditors in payment of his debts. This cession, unless there is
stipulation to the contrary, shall only release the debtor from
responsibility for the net proceeds of the thing assigned. The
agreements which, on the effect of the cession, are made between the
debtor and his creditors shall be governed by special laws.
Requisites:
(a) More than one debt;
(b) More than one creditor
(c) Complete or partial insolvency of the debtor;
(d) Abandonment of all debtor’s property not exempt
from execution in favor of the creditors; and
(e) Acceptance or consent on the part of the creditors.
Cession is the process by which a debtor transfers all the
properties not subject to execution in favor of his creditors so that
the latter may sell them, and thus apply the proceeds to their
credits.
When the law states that the debtor may cede or assign
his property, it refers not only to the cession of one or a number of
properties of the debtor but to all of the properties of the debtor
which are susceptible of and not exempted by law from being
alienated. An example of a property which is generally exempted
by law from being executed or sold is the family home. However, it
may be sold provided that it strictly follows the requirements of
law, such as the procurement of the written consent to the sale of
the person who constituted the home as a family home and the
latter’s spouse and a majority of the beneficiaries of legal age of
the family home. Just like in any contract, the creditors must agree
to the cession under Article 1255. Among the creditors, they must
likewise agree as to which debt will be paid first or as to the
proportioning of the payment of the money obtained through
cession for the payment of debt. If there is no agreement, the
applicable law on preference of credit will apply. The creditors
then will administer the totality of the ceded property without the
ownership being transferred to them. They will be authorized to
sell or alienate the property for purpose of obtaining enough
resources or money to pay off their respective debts. Once cession
is made, the obligation of the debtor shall only be extinguished up
to the extent that the proceeds are able to satisfy the claims of the
creditors. Hence, it is possible that the money obtained from the
alienation of the property is not enough to satisfy the claims of the
creditors. In such case, the creditors can still demand payment for
the deficiency.
Villaluz v. Landbank
 Held: The assignment could not have constituted payment by
cession under Article 1255 for the plain and simple reason that there was
only one creditor, Land Bank. A1iicle 1255 contemplates the existence of
two or more creditors and involves the assignment of all the debtor's
property.
The agreements on the effect of the cession made
between the debtor and his creditors shall be governed by special
laws. One of the special laws is the Insolvency Law which, if
applicable, shall place the assets of the debtor for judicial
liquidation for the purpose of paying off his obligations.
Dation in Payment vs. Payment by Cession
In dation in payment, there is only one creditor, while in
payment by cession, you talk about all creditors of that debtor.
As to the financial condition of parties, in dation in
payment, the debtor is not insolvent, but in payment by cession,
there must be partial or relative insolvency of debtor.
As to object of obligation – in dation in payment what is
delivered is property in satisfaction or full payment of an existing
monetary obligation; in payment by cession, it refers to the
universe of the debtor’s properties, and they are not delivered
directly but sold and the net proceeds thereof are the ones to be
delivered as payment to all the debts of the debtor to his creditors.
As to formalities – dation in payment is contractual or
consensual, as it is akin to a sale and is governed by the law on
Sales; Payment by cession can be consensual or judicial, and the
judicial cession is governed by Insolvency Law.
Application of Payment vs. Payment by Cession
In application of payment and payment by cession both
have a plurality of creditors. The main difference is, in application
of payment it is not required that the debtor is insolvent, while in
cession, the debtor must be relatively or partially insolvent.
As to the governing laws – application of payment is
governed by Articles 1252-1254 while in payment by cession
particularly judicial cession it is governed by insolvency law.
Subsection 3
TENDER OF PAYMENT AND CONSIGNATION
Tender of payment is the act of offering the creditor what
is due him together with a demand that the creditor accept the
same. Consignation is the act of depositing the thing due with the
court or judicial authorities whenever the creditor cannot accept or
refuses to accept payment. It generally requires prior tender of
payment [Limkako v. Teodoro].
Article 1256. If the creditor to whom tender of payment has
been made refuses without just cause to accept it, the debtor shall be
released from responsibility by the consignation of the thing or sum
due.
Consignation alone shall produce the same effect in the
following cases:
(1) When the creditor is absent or unknown, or does not
appear at the place of payment;
(2) When he is incapacitated to receive the payment at the
time it is due;
(3) When, without just cause, he refuses to give a receipt;
(4) When two or more persons claim the same right to
collect;
(5) When the title of the obligation has been lost.
11 | P a g e
Tender of payment without consignation does not
extinguish the debt; consignation must follow.
The creditor is justified in refusing tender of payment if
the tender of payment is not valid. To be valid the tender of
payment must have the following requisites:
1. It must be made in legal tender;
2. It must include whatever interest is due;
3. Generally, it must be unconditional;
4. The obligation must already be due.
Pabugais v. Sahijwani
Held: While it is true that in general, a manager’s check is not
legal tender, the creditor has the option of refusing or accepting it. Payment
in check by the debtor may be acceptable as valid, if no prompt objection to
said payment is made. Consequently, petitioner’s tender of payment in the
form of manager’s check is valid.
The law likewise states that consignation alone shall
produce the same effect in five cases. The first case is when the
creditor is absent or unknown, or does not appear at the place of
payment. Hence, if A is indebted to B in the amount of P1,000
payable on April 11, 1997 at the Manila Hotel, and on the said
date, A is ready to pay, but B is not at the Manila Hotel, then
consignation can immediately be made in court without need of
looking for B and tendering payment.
The second case is when the creditor is incapacitated to
receive the payment at the time it is due. Hence, if A is indebted to
B who later on becomes insane, tender of payment need not be
made as the said insane creditor might not even understand what
the debtor is doing. A can immediately consign the money in court
so that he will be relieved of any responsibility such as the running
of interest.
The third case is when, without just cause, the creditor
refuses to give a receipt. A receipt is a proof of payment. It is
under-standable that a debtor must protect himself by all means
possible and one of these protections is the receipt which he can
demand from the creditor upon payment precisely to evidence the
fact of payment. However, if there is just cause for the creditor not
to issue the receipt, tender of payment must still be made. For
instance, if the debtor insists from the creditor that the latter issue a
receipt for the full amount of the indebtedness and the creditor
refuses to issue such a receipt because there has been no full
payment, there is justifiable ground for the creditor not to issue the
receipt and therefore tender of payment is still necessary.
The fourth case is when two or more persons claim the
same right to collect. There is no use tendering payment to any of
the two or more persons who claim the right to collect because it
may turn out that the person to whom payment is given might not
be lawfully entitled to the payment.
Cacayorin v. AFPMBS
Held: Applying Article 1256 to the petitioners’ case as shaped
by the allegations in their Complaint, the Court finds that a case for
consignation has been made out, as it now appears that there are two
entities which petitioners must deal with in order to fully secure their title to
the property: 1) the Rural Bank (through PDIC), which is the apparent
creditor under the July 4, 1994 Loan and Mortgage Agreement; and 2)
AFPMBAI, which is currently in possession of the loan documents and the
certificate of title, and the one making demands upon petitioners to pay.
Clearly, the allegations in the Complaint present a situation where the
creditor is unknown, or that two or more entities appear to possess the same
right to collect from petitioners.
Indeed, the instant case presents a unique situation where the
buyer, through no fault of his own, was able to obtain title to real property
in his name even before he could pay the purchase price in full. There
appears to be no vitiated consent, nor is there any other impediment to the
consummation of their agreement, just as it appears that it would be to the
best interests of all parties to the sale that it be once and for all completed
and terminated. For this reason, Civil Case No. 3812 should at this juncture
be allowed to proceed.
Finally, the lack of prior tender of payment by the petitioners is
not fatal to their consignation case. They filed the case for the exact reason
that they were at a loss as to which between the two – the Rural Bank or
AFPMBAI – was entitled to such a tender of payment. Besides, as earlier
stated, Article 1256 authorizes consignation alone, without need of prior
tender of payment, where the ground for consignation is that the creditor is
unknown, or does not appear at the place of payment; or is incapacitated to
receive the payment at the time it is due; or when, without just cause, he
refuses to give a receipt; or when two or more persons claim the same right
to collect; or when the title of the obligation has been lost.
The fifth case is when the title of the obligation has been
lost. For the protection of the debtor, he may immediately go to
court if title is lost because, it is better for the court to declare that
the obligation has been extinguished than just pay the creditor
without recovering the title to the debt or at least without declaring
or annotating in the said title that the debt is already ineffective
because of the payment.
Article 1257. In order that the consignation of the thing due
may release the obligor, it must first be announced to the persons
interested in the fulfilment of the obligation.
The consignation shall be ineffectual if it is not made strictly
in consonance with the provisions which regulate payment.
Essential Requisites for consignation:
1. Existence of a valid debt
2. Valid prior tender, unless tender is excused
3. Prior notice of consignation
4. Actual consignation
5. Subsequent notice of consignation
Tender of payment is the manifestation by debtors of
their desire to comply with or to pay their obligation. If the creditor
refuses the tender of payment without just cause, the debtors are
discharged from the obligation by the consignation of the sum due.
Consignation is made by depositing the proper amount to the
judicial authority, before whom the tender of payment and the
announcement of the consignation shall be proved. All interested
parties are to be notified of the consignation. Compliance with
these requisites is mandatory [Sps Benos v. Lawilao].
Without the notice first announced to the persons
interested in the fulfillment of the obligation, the consignation as a
payment is void [Limkako v. Teodoro].
Sps Benos v. Lawilao
Held: In the instant case, records show that the Lawilao spouses
filed the petition for consignation against the bank in Civil Case No. 310
without notifying the Benos spouses. The petition was dismissed for lack of
cause of action against the bank. Hence, the Lawilao spouses failed to prove
their offer to pay the balance of the purchase price and consignation. In
fact, even before the filing of the consignation case, the Lawilao spouses
never notified the Benos spouses of their offer to pay.
Article 1258. Consignation shall be made by depositing the
things due at the disposal of judicial authority, before whom the tender
of payment shall be proved, in a proper case, and the announcement of
the consignation in other cases.
The consignation having been made, the interested parties
shall also be notified thereof.
How consignation is actually made:
12 | P a g e
1. The things due must be deposited with the proper judicial
authorities;
2. There must be proof that:
(a) Tender had previously been made; or
(b) That the creditor had previously notified the debtor that
consignation will be made (in case tender is not required)
Consignation is necessarily judicial. Article 1258 of the
Civil Code specifically provides that consignation shall be made by
depositing the thing or things due at the disposal
of judicial authority. The said provision clearly precludes
consignation in venues other than the courts [Cacayorin v.
AFPBMS].
Article 1259. The expenses of consignation, when properly
made, shall be charged against the creditor.
Article 1260. Once the consignation has been duly made, the
debtor may ask the judge to order the cancellation of the obligation.
Before the creditor has accepted the consignation, or before
a judicial declaration that the consignation has been properly made,
the debtor may withdraw the thing or the sum deposited, allowing the
obligation to remain in force.
Effects if consignation has been duly made:
(a) The debtor may ask the judge to order the cancellation of
the obligation
(b) The running of interest is suspended
(c) However, if it should be observed that before the creditor
accepts, or before the judge declares the consignation has
been properly made, the obligation remains.
When debtor may withdraw the thing or sum
consigned
1. As a matter of right:
(a) Before the creditor has accepted the consignation; or
(b) Before there is a judicial declaration that the
consignation has been properly made.
2. As a matter of privilege:
When after consignation had been properly made (the
creditor having accepted or the court having declared it proper), the
creditor authorizes the debtor to withdraw the thing (1261)
Pabugais v. Sahijwani
Held: The amount consigned with the trial court can no longer
be withdrawn by petitioner because respondent’s prayer in his answer that
the amount consigned be awarded to him is equivalent to an acceptance of
the consignation, which has the effect of extinguishing petitioner’s
obligation.
Article 1261. If, the consignation having been made, the
creditor should authorize the debtor to withdraw the same, he shall
lose every preference which he may have over the thing. The co-
debtors, guarantors and sureties shall be released.
If the obligation having been extinguished and the debtor
decides to withdraw the thing deposited with the creditor’s consent,
there is therefore nothing which the creditor can obtain from the
court. In this case, both the debtor and the creditor, in effect, agreed
to revive the indebtedness. However, the creditor, because of his
consent to the withdrawal, will lose preference to the thing
previously deposited to specifically pay-off his debt. Anybody who
has an interest in it can also go after it and the creditor cannot
anymore say that it has been precisely consigned to answer for the
credit in his favor. Moreover, his solidary debtors, guarantors and
sureties shall be released as they likewise benefit from the
extinguishment of the obligation and the debtor cannot unilaterally
revive the obligation without their consent.
Effects:
1. The obligation remains.
2. The creditor loses any preference (priority) over the
thing.
3. The co-detors, guarantors, and sureties are released.
NOTE: The co-debtors referred to are the solidary co-
debtors, not joint ones, for their liabilities are distinct. Regarding
the solidary co-debtors, they are released only from the solidarity,
not from their own individual shares, since unlike guarantors or
sureties, he solidary co-debtors are in themselves principal debtors.
Section 2
LOSS OF THE THING DUE
There is a loss:
(1) When the object perishes
(2) When it goes out of commerce
(3) When it disappears in such a way that-
(a) its existence is unknown or
(b) It cannot be recovered.
Impossibility of performance includes:
(1) Physical impossibility
(2) Legal impossibility, which is either:
(a) Directly caused as when prohibited by law or
(b) Indirectly caused as when the debtor is
required to enter a military draft
(3) Moral impossibility (impracticability under 1267).
Article 1262. An obligation which consists in the delivery of
a determinate thing shall be extinguished if it should be lost or
destroyed without the fault of the debtor, and before he has incurred in
delay.
When by law or stipulation, the obligor is liable even for
fortuitous events, the loss of the thing due does not extinguish the
obligation, and he shall be responsible for damages. The same rule
applies when the nature of the obligation requires the assumption of
risk.
When the object of the prestation is a determinate thing,
the debtor shall be excused from performing his obligation if such
thing is lost without his fault. However, if it is his fault or if it has
been lost after the debtor has incurred in delay, the debtor shall
answer for the resulting damages.
With respect to liability even for fortuitous event, or
when the nature of the obligation requires an assumption of risk,
this has been fully discussed under Article 1174. In these cases,
because the thing is lost already, damages can be obtained from the
debtor. Thus, if the specific and particular car to be delivered by
the debtor is worth P500,000, and it is lost through a fortuitous
event, but the parties stipulate that the debtor, even under such
circumstances, will still be liable, the creditor cannot insist on the
delivery of the specific car because it has already been lost, but he
can seek damages in the amount of P500,000 which is the value of
the car.
Examples of instances when the law requires liability
even in the case of fortuitous event:
1. When the debtor is in default (1165)
13 | P a g e
2. When the debtor has primised to deliver the same
thing to two or more persons who do not have the
same interest (1165)
3. When the obligation arises from a crime (1268)
Article 1263. In an obligation to deliver a generic thing, the
loss or destruction of anything of the same kind does not extinguish the
obligation.
The obligation continues to exist because a generic thing
does not really perish.
Exceptions:
(a) If the generic thing is delimited (like 50 kilos of
sugar from my 1999 harvest” when such harvest is
completely destroyed)
(b) If the generic thing has already been segregated or
set aside, in which case, it has become specific.
Article 1264. The courts shall determine whether, under the
circumstances, the partial loss of the object of the obligation is so
important as to extinguish the obligation.
A loss may be complete or partial. If the loss is complete,
Articles 1262 and 1263 will apply. If the loss is partial and the
circumstances so warrant, the court may consider it as a complete
loss which extinguishes the obligation. This can only happen if the
partial loss is so important so as to totally affect the whole object of
the obligation.
Article 1265. Whenever the thing is lost in the possession of
the debtor, it shall be presumed that the loss was due to his fault, unless
there is proof to the contrary, and without prejudice to the provisions
of Article 1165. This presumption does not apply in case of earthquake,
flood, storm, or other natural calamity.
As a general rule, it is presumed that the loss of the thing
is due to the fault of the debtor who possesses it. If the presumption
applies, it is incumbent upon the debtor to prove that the loss is not
through his fault or it has been caused by a fortuitous event. In any
event, the presumption does not apply even if the loss happens at
the time the thing is in the possession of the debtor if, at the time of
the loss, an earthquake, storm, or other natural calamity exists.
Article 1266. The debtor in obligations to do shall also be
released when the prestation becomes legally or physically impossible
without the fault of the obligor.
This article refers to the prestation “to do.” In Philippine
National Construction Corporation vs. Court of Appeals2 where
the lessee in a lease contract sought its release from paying the
rentals and from the said contract itself invoking Article 1266 and
claiming that, due to the change in political climate after the EDSA
revolution and change in financial condition, it was not able to use
the property for the purpose for which it intended to utilize it, i.e.,
to use the leased premises as a site of a rock crushing plant, the
Supreme Court rejected such prayer for the lessee’s release by
stating:
It is a fundamental rule that contracts, once perfected, bind both
contracting parties, and obligations arising therefrom have the force of law
between the parties and should be complied with in good faith. But the law
recognizes exceptions to the principle of the obligatory force of contracts.
One exception is laid down in Article 1266 of the Civil Code, which reads:
“The debtor in obligations to do shall also be released when the prestation
becomes legally or physically impossible without the fault of the obligor.”
 Petitioner cannot, however, successfully take refuge in the said
article, since it is applicable only to obligations “to do,” and not to
obligations “to give.” An obligation “to do” includes all kinds of work or
service; while an obligation “to give” is a prestation which consists in the
delivery of a movable or an immovable thing in order to create a real right
or for the use of the recipient, or for its simple possession, or in order to
return it to its owner.
The obligation to pay rentals or deliver the thing in a contract of
lease falls within the prestation “to give;” hence, it is not covered within the
scope of Article 1266. At any rate, the unforeseen event and causes
mentioned by the petitioner are not the legal or physical impossibilities
contemplated in the said article. Besides, petitioner failed to state
specifically the circumstances brought about by the “abrupt change in the
political climate” except the alleged prevailing uncertainties in government
policies on infrastructure projects.
The obligation to pay rentals or deliver the thing in a contract of
lease falls within the prestation “to give”; hence, it is not covered within the
scope of Article 1266 [COMGLASCO v. Santos Car Check].  Besides, the petitioner had the legal obligation to complete the amenities
Article 1267. When the service has become so difficult as to
be manifestly beyond the contemplation of the parties, the obligor may
also be released therefrom, in whole or in part. (VIP)
NOTE: Article 1267 speaks of a service – a personal
obligation. Thus, real obligations are not included within its scope.
Other names for Article 1267:
1. Doctrine of frustration of commercial object
2. Doctrine of frustration of enterprise
For Article 1267 to apply, the following conditions
should concur, namely: (a) the event or change in circumstances
could not have been foreseen at the time of the execution of the
contract; (b) it makes the performance of the contract extremely
difficult but not impossible; (c) it must not be due to the act of any
of the parties; and (d) the contract is for a future prestation [Magat
v. Court of Appeals].
This Article refers to moral impossibility or
impracticability due to change o certain conditions (rebuc sic
stantibus – a treaty or agreement remains valid only if the same
conditions prevailing at the time of contracting continue to exist at
the time of performance). Difficulty alone does not excuse the
debtor from fulfilling his prestation. This has been referred to as
“subjective impossibility” which means that a promissor’s duty is
never discharged by the mere fact that the supervening events
deprive him of the ability to perform, if they are not such as to
deprive other persons, likewise, of ability to render such a
performance [U.S. v. Wegematic Corp].
Comglasco v. Santos Car Check
Held:Relying  on  Article  1267  of  the  Civil  Code  to  justify 
its  decision to pre-terminate its lease with Santos, Comglasco invokes the
1997 Asian currency crisis as causing it much difficulty in meeting its
obligations.  But in PNCC, the Court held that the payment of lease rentals
does not involve a prestation “to do” envisaged in Articles 1266 and 1267
which has been rendered  legally  or  physically  impossible  without  the  Section 3
fault  of  the obligor-lessor.  Article 1267 speaks of a prestation involving
service which has been rendered so difficult by unforeseen subsequent
events as to be manifestly beyond the contemplation of the parties.  To be
sure, the Asian currency crisis befell the region from July 1997 and for
sometime thereafter, but Comglasco cannot be permitted to blame its
difficulties on the said regional economic phenomenon because it entered
into the subject lease only on August 16, 2000, more than three years after
it began, and by then Comglasco had known what business risks it assumed
when it opened a new shop in Iloilo City.
Magat v. Court of Appeals
14 | P a g e
Held: Its invocation of Article 1267 of the Civil Code, which
provides that "(w)hen the service has become so difficult as to be
manifestly beyond the contemplation of the parties, the obligor may also be
released therefrom in whole or in part," was factually unfounded. For
Article 1267 to apply, the following conditions should concur, namely: (a)
the event or change in circumstances could not have been foreseen at the
time of the execution of the contract; (b) it makes the performance of the
contract extremely difficult but not impossible; (c) it must not be due to the
act of any of the parties; and (d) the contract is for a future prestation. The
requisites did not concur herein because the difficulty of performance under
Article 1267 of the Civil Code should be such that one party would be
placed at a disadvantage by the unforeseen event. Mere inconvenience, or
unexepected impediments, or increased expenses did not suffice to relieve
the debtor from a bad bargain.
The unilateral suspension of the construction had preceded the
worsening of economic conditions in 1983; hence, the latter could not
reasonably justify the petitioner's plea for release from its statutory and
contractual obligations to its lot buyers, particularly the respondent.
within one year from the issuance of the license (under Section 20 of
Presidential Decree No. 957), or within two years from July 15, 1976
(under the express undertaking of the petitioner). Hence, it should have
complied with its obligation by July 15, 1978 at the latest, long before the
worsening of the economy in 1983.
Article 1268. When the debt of a thing certain and
determinate proceeds from a criminal offense, the debtor shall not be
exempted from the payment of its price, whatever may be the cause for
the loss, unless the thing having been offered by him to the person who
should receive it, the latter refused without justification to accept it.
This Article gives one instance where a fortuitous event
does not extinguish the obligation. The exception is when the
creditor (the offended party of the crime) is in mora accipiendi.
If A stole a watch from B and was criminally charged for
such an offense, and the watch was lost through a fortuitous event,
the debtor-accused must still pay the price of the watch. The loss
will not excuse him from being responsible as he did not have the
right to possess the same in the first place. If A however offered
back the watch to B, and the latter refused to accept, the risk of loss
of the watch would be on B except if there was justifiable reason
not to accept it as, for example, it had already been severely
damaged.
Article 1269. The obligation having been extinguished by the
loss of the thing, the creditor shall have all the rights of action which
the debtor may have against third persons by reason of the loss.
This is another provision designed to protect the interest
of the creditor. Hence, if A buys a house from G, and the house,
which is insured, is accidentally burned by a fortuitous event prior
to the demand for its delivery by A, the obligation of G to deliver
the house is extinguished. However, in the event that A has already
paid the price of the house, he can seek reimbursement of the
insurance proceeds due from the insurance company.
CONDONATION OR REMISSION OF THE DEBT
Article 1270. Condonation or remission is essentially
gratuitous, and requires the acceptance by the obligor. It may be made
expressly or impliedly.
One and the other kinds shall be subject to the rules which
govern inofficious donations. Express condonation shall, furthermore,
comply with the forms of donation.
Condonation is an act of liberality. It connotes that there
is a previous demandable obligation but the obligee or the creditor
decides not to enforce the debtor’s prestation anymore. It requires
however the implied or express consent of the obligor. In effect,
condonation or remission of a debt is a donation of the obligee’s
credit in favor of the debtor.
The remission or condonation is governed by the rules on
inofficious donation. A donation is inofficious if it turns out that
the thing or amount donated (remitted or condoned) encroaches or
infringes on the legitime or successional rights of the heirs of the
condoning creditor.
Requisites:
1. It must be made gratuitously;
2. It must be accepted by the obligor;
3. The obligation must be due and demandable
4. In case of express condonation, the formalities of a
donation must be followed;
5. It must not be in fraud of creditors (if it is in fraud,
such remission is rescissible); and
6. It must not be inofficious
Reyna v. COA
Issue: Is the write off of a loan obligation, does it partake in the
nature of a condonation or remission?
Held: NO. A write-off is a financial accounting concept that
allows for the reduction in value of an asset or earnings by the amount of an
expense or loss. It is a means of removing bad debts from the financial
records of the business. ‘Write-off is not one of the legal grounds for
extinguishing an obligation under the Civil Code.  It is not a compromise of
liability. Neither is it a condonation, since in condonation gratuity on the
part of the obligee and acceptance by the obligor are required.  In making
the write-off, only the creditor takes action by removing the uncollectible
account from its books even without the approval or participation of the
debtor.
Furthermore, write-off cannot be likened to a novation, since the
obligations of both parties have not been modified. When a write-off
occurs, the actual worth of the asset is reflected in the books of accounts of
the creditor, but the legal relationship between the creditor and the debtor
still remains the same - the debtor continues to be liable to the creditor for
the full extent of the unpaid debt.
The law likewise provides that express condonation shall,
furthermore, comply with the forms of donation. Title III, Chapter
2 of the Civil Code on Donations pertinently provides:
Article 748. The donation of a movable may be made orally or
in writing.
An oral donation requires the simultaneous delivery of the thing
or of the document representing the right donated.
If the value of the personal property donated exceeds five
thousand pesos, the donation and the acceptance shall be made in writing.
Otherwise, the donation shall be void.
Article 749. In order that the donation of an immovable may be
valid, it must be made in a public document, specifying therein the property
donated and the value of the charges which the donee must satisfy.
The acceptance may be made in the same deed of donation or in
a separate public document, but it shall not take effect unless it is done
during the lifetime of the donor. If the acceptance is made in a separate
instrument, the donor shall be notified thereof in an authentic form, and this
step shall be noted in both instruments.
Article 1271. The delivery of a private document evidencing
a credit, made voluntarily by the creditor to the debtor, implies the
renunciation of the action which the form had against the latter.
If in order to nullify this waiver it should be claimed to be
inofficious, the debtor and his heir may uphold it by proving that the
delivery of the document was made in virtue of payment of the debt.
15 | P a g e
The most common private document evidencing a credit
is a promissory note. A promissory note in the hands of the creditor
is proof of indebtedness rather than proof of payment. If a creditor
delivers a promissory note to the debtor, the former, in effect,
furnishes the debtor the evidence which could prove the
indebtedness of such debtor in his favor. It therefore implies that he
is no longer interested in the debt. The law provides that such act
will be considered a renunciation. Thus, if A is indebted to B in the
amount of P1,000.00 evidenced by a promissory note executed by
A, which is in the possession of B who later voluntarily gives it to
A, such delivery implies a renunciation of the debt. However, in
the event that the remission of the P1,000 is claimed to be void
because it is inofficious, the heirs of A can show that A’s
possession of the promissory note is not a result of a remission
made by A but a result of A’s payment of the obligation. In case of
payment, the promissory note is always taken by the debtor.
Article 1272. Whenever the private document in which the
debt appears is found in the possession of the debtor, it shall be
presumed that the creditor delivered it voluntarily, unless the contrary
is proved.
While Article 1271 gives a presumption of remission,
Article 1272 gives a presumption of voluntary delivery. Note here
again that the law speaks of a private document. The presumption
is disputable or prima facie, for the law itself says until the
contrary is proved.
If the instrument is still in the hands of the creditor, this
is evidence that the debt has not yet been paid, unless the contrary
is proved.
Article 1273. The renunciation of the principal debt shall
extinguish the accessory obligation; but the waiver of the latter shall
leave the former in force.
The existence of the accessory obligation depends on the
existence of the principal obligation. But the existence of the
principal obligation does not depend on the accessory obligation. If
the principal obligation is extinguished, it carries with it the
extinguishment of the accessory obligation but not vice-versa.
Article 1274. It is presumed that the accessory obligation of
pledge has been remitted when the thing pledged, after its delivery to
the creditor, is found in the possession of the debtor, or of a third
person who owns the thing.
A pledge involves a movable property constituted by the
owner of such property who has free disposal of it, to secure the
fulfillment of a principal obligation3 and such contract is perfected
only upon the delivery of the thing pledged to the creditor.4 A
pledge is an accessory contract. A person may even pledge his
property not for his own indebtedness but for the indebtedness of
another person. Hence, in a contract of pledge, the creditor or the
obligee must be in possession of the thing pledged. If it is in the
possession of the debtor or of the third person who owns it, there is
a presumption that the accessory obligation has been condoned or
remitted. However, this is a refutable presumption.
Section 4
CONFUSION OR MERGER OF RIGHTS
Article 1275. The obligation is extinguished from the time
the characters of creditor and debtor are merged in the same person.
 Merger or confusion is the meeting in one person the
qualities of creditor and debtor with respect to the same obligation.
Requisites of a valid merger:
1. It should take place between the principal debtor
and creditor.
2. The merger must be clear and definite
3. The very obligation involved must be the same or
identical.
Article 1276. Merger which takes place in the person of the
principal debtor or creditor benefits the guarantors. Confusion which
takes place in the person of any of the latter does not extinguish the
obligation.
An indebtedness by a debtor and guaranteed by a third
person is extinguished if there is a merger of the characters of the
debtor and creditor. In this case, the guarantor is clearly benefited
because the extinguishment of the principal obligation extinguishes
the accessory obligation of guarantee. Indeed, the debtor, in whose
person the character of the creditor has merged, cannot collect from
the guarantor claiming that he (the debtor) is now at the same time
the creditor because it is legally quite absurd to tell the guarantor
that, after exhausting all available remedies to collect the
indebtedness from himself, he failed to collect it, and thus, he is
now going against the guarantor for collection of the amount owed.
However, the merger of the persons of the guarantor and the
creditor does not extinguish the obligation. It merely extinguishes
the accessory obligation. Also, a merger of the characters of the
debtor and the guarantor extinguishes the accessory obligation, but
not the principal obligation.
Article 1277. Confusion does not extinguish a joint
obligation except as regards the share corresponding to the creditor or
debtor in whom the two characters concur.
Joint debtors owe the creditor only their share in the
whole indebtedness and the creditor can only collect from a joint
debtor his share in the total indebtedness. Thus, if A, B and C
jointly owe X P3,000 and there is a merger of the characters of X
and C, the obligation is extinguished in so far as the P1,000 share
of C in the indebtedness is concerned but not as to the rest. X can
still collect P1,000 each from A and B. If the obligation of the
debtors is solidary and there is merger of the characters of C and X,
the obligation is extinguished.2 However, if A pays the whole
indebtedness to X prior to the merger of the characters of C and X,
A can still collect from X and likewise from B their respective
shares in the indebtedness which is P1,000 each.
Cases when extinguishment is partial:
1. When the confusion or merger refers only to a part of
the obligation
2. When the obligation is joint.
Section 5
COMPENSATION
Article 1278. Compensation shall take place when two
persons, in their own right, are creditors and debtors of each other.
Article 1279. In order that compensation may be proper, it is
necessary:
(1) That each one of the obligors may be bound principally,
and that he be at the same time a principal creditor of the other;
16 | P a g e
(2) That both debts consist in a sum of money, or if the
things due are consumable, they be of the same kind, and also of the
same quality if the latter has been stated;
(3) That the two debts are due;
(4) That they be liquidated and demandable;
(5) That over neither of them there be any retention or
controversy, commenced by third persons and communicated in due
time to the debtor. (VIP)
Compensation is a mode of extinguishing an obligation
whereby the parties are mutually debtors and creditors of each
other such that if they exactly owe each other the same amount and
the requisites under Article 1279 are present, they do not have to
make actual payment to each other in the sense that they do not
have to hand money or the things due to each other, as payment is
made by operation of law.
The first requisite for legal compensation is that each
one of the obligors be bound principally and that each of them be at
the same time a principal creditor of the other. The parties must be
mutual creditors and debtors of each other.
The second requisite for legal compensation is that both
debts consist in a sum of money, or if the things due are
consumable, they be of the same kind, and also of the same quality
if the latter has been stated. Clearly, there can be no compensation
if one debt involves the payment of money and the other the
delivery of a particular thing. However, there can be compensation
involving things which are determined such as any computer but
not a specific determinate thing such as a computer with serial
number 10325. In this sense, “consumable” used by the law must
be interpreted as “fungible” which is susceptible of substitution.
The third requisite is that the two debts be due.
However, the debts need not be contracted or incurred at the same
time. A debt cannot be demanded if it is not yet due. Hence, this
requisite is very important. However, the parties can agree that
compensation can be made even as to the debts which are not yet
due.
The fourth requisite is that they be liquidated and
demandable. The debt must be determined and certain. Thus
compensation cannot take place where one of the debts is not
liquidated as when there is a running interest still to be paid
thereon.
A distinction must be made between a debt and a mere
claim. A debt is an amount actually ascertained. It is a claim which
has been formally passed upon by the courts or quasi-judicial
bodies to which it can in law be submitted and has been declared to
be a debt. A claim, on the other hand, is a debt in embryo. It is
mere evidence of a debt and must pass thru the process prescribed
by law before it develops into what is properly called a debt
[Vallarta vs. CA]. Absent, however, any such categorical admission
by an obligor or final adjudication, no compensation or off-set can
take place. Unless admitted by a debtor himself, the conclusion that
he is in truth indebted to another cannot be definitely and finally
pronounced, no matter how convinced he may be from the
examination of the pertinent records of the validity of that
conclusion the indebtedness must be one that is admitted by the
alleged debtor or pronounced by final judgment of a competent
court or in this case by the Commission [Villanueva vs. Tantuico].
EGV Realty v. Unisphere
Held: While respondent Unisphere does not deny its liability for
its unpaid dues to petitioners, the latter do not admit any responsibility for
the loss suffered by the former occasioned by the burglary. At best, what
respondent Unisphere has against petitioners is just a claim, not a debt.
Such being the case, it is not enforceable in court. It is only the debts that
are enforceable in court, there being no apparent defenses inherent in them.
Respondent Unisphere's claim for its loss has not been passed upon by any
legal authority so as to elevate it to the level of a debt. So we held
in Alfonso Vallarta v. Court of Appeals, et al.,  that:
Compensation or offset takes place by operation of law when
two (2) persons, in their own right, are creditor and debtor of each other.
For compensation to take place, a distinction must be made between a debt
and a mere claim. A debt is a claim which has been formally passed upon
by the highest authority to which it can in law be submitted and has been
declared to be a debt. A claim, on the other hand, is a debt in embryo. It is
mere evidence of a debt and must pass thru the process prescribed by law
before it develops into what is properly called a debt. Tested by the
foregoing yardstick, it has not been sufficiently established that
compensation or set-off is proper here as there is lack of evidence to show
that petitioners E.G.V. Realty and CCC and respondent Unisphere are
mutually debtors and creditors to each other.
PTC v. Roxas
Held: Here, the fourth requisite is absent. A debt is liquidated
when its existence and amount are determined. Compensation can only take
place between certain and liquidated debts; it cannot extend to unliquidated,
disputed claims. Since the loan obligation, including its amount and
demandability, is still being disputed in CA-G.R. CVNo. 30340, PTC's
credit cannot be considered liquidated as of yet. Consequently, no legal
compensation could have taken place between PTC's loan credit and the
Spouses Roxas' judgment credit.
California Manufacturing v. Advanced Technology
Held: The law requires that the debts be liquidated and
demandable. Liquidated debts are those whose exact amounts have already
been determined.
CMCI has not presented any credible proof, or even just an
exact computation, of the supposed debt of PPPC. It claims that the
mobilization fund that it had advanced to PPPC was in the amount of P4
million. Yet, Felicisima's proposal to conduct offsetting in her letter dated
30 July 2001 pertained to a P3.2 million debt of PPPC to CMCI.
Meanwhile, in its Answer to ATSI's complaint, CMCI sought to set off its
unpaid rentals against the alleged P10 million debt of PPPC. The
uncertainty in the supposed debt of PPPC to CMCI negates the latter's
invocation of legal compensation as justification for its non-payment of the
rentals for the subject Prodopak machine.
The fifth requisite is that over neither of them there be
any retention or controversy, commenced by third persons and
communicated in due time to the debtor.
Marphil Export v. Allied Banking
Held: In this case, when Allied Bank credited the amount of
P1,913,763.45 to Marphil's account, it became the debtor of Marphil.
However, once Nanyang Bank dishonored the export documents and draft
for L/C No. 21970, Marphil became the debtor of Allied Bank for the
amount by virtue of its obligation to reimburse the bank under the Letter
Agreement. This obligation consisting of sum of money became
demandable upon notice of the dishonor by Nanyang Bank. Thus, legal
compensation may take place between the two debts.
In Associated Bank, we nevertheless emphasized that while the
bank has the right to set off, the exercise of such right must be consistent
with the required degree of diligence from banks, i.e., highest degree of
care. Thus, the question that needs to be resolved now is whether Allied
Bank properly exercised its right to set off.
We rule that Allied Bank properly exercised its right to set off.
Firstly, having signed the Letter Agreement, Marphil expressly undertook
that in case of dishonor of the draft for the letter of the credit, it will refund
to Allied Bank whatever the latter has credited in its favor. This places
Marphil on its guard that the dishonor will create an obligation to refund the
amount credited. Secondly, prior to debiting the amount, Allied Bank
informed Marphil twice of Nanyang Bank's refusal to honor the tender of
documents on L/C No. 21970. Thirdly, it immediately informed Marphil
that it was debiting the amount of the dishonored draft from the credit line.
Negative requisites for legal compensation
1. There must have been no waiver of the compensation.
17 | P a g e
2. The compensation of the debts must not have been prohibited
by law. The compensation of the following are prohibited:
(a) Debts arising from deposit; • Generally, the contract of
deposit is onerous, but it can also be gratuitous. There
cannot be compensation to that effect.
(b) Debts arising from the obligation of the depositary;
(c) Debts arising from obligations of a bailee in
commodatum;
(d) Debts arising from claim of a future support due to
gratuitous title; and
(e) Debts consisting in civil liability arising from a penal
offense. • This is because the debts are not of the same
kind, quality, or extent.
(f) Under the law of partnership, damages suffered by a
partner, through fault of any one of the partners, cannot
be compensated with the benefits or profits to which
that partner may earn from the partnership on account of
his industry.
BPI v. Court of Appeals
Held: The elements of legal compensation are all present in the
case at bar. The obligors bound principally are at the same time creditors of
each other. Petitioner bank stands as a debtor of the private respondent, a
depositor. At the same time, said bank is the creditor of the private
respondent with respect to the dishonored U.S. Treasury Warrant which the
latter illegally transferred to his joint account.  The debts involved consist
of a sum of money. They are due, liquidated, and demandable. They are not
claimed by a third person.
It is true that the joint account of private respondent and his
wife was debited in the case at bar. We hold that the presence of private
respondent’s wife does not negate the element of mutuality of parties, i.e.,
that they must be creditors and debtors of each other in their own right. The
wife of private respondent is not a party in the case at bar. She never
asserted any right to the debited U.S. Treasury Warrant. Indeed, the right of
the petitioner bank to make the debit is clear and cannot be doubted. To
frustrate the application of legal compensation on the ground that the
parties are not all mutually obligated would result in unjust enrichment on
the part of the private respondent and his wife who herself out of honesty
has not objected to the debit.The rule as to mutuality is strictly applied at
law.  But not in equity, where to allow the same would defeat a clear
right or permit irremediable injustice.
Distinction between Compensation and Payment:
1. They have different requisites;
2. Compensation takes effect by operation of law
whereas Payment takes effect only upon the act of the parties;
3. Capacity to give or acquire is not necessary in
compensation, it is sufficient that there is no retention or
controversy. In Payment, it is essential that the person has free
disposal, or capacity to alienate, the thing due.
4. As a rule, compensation can be partial. In Payment, it
must be complete and indivisible.
Distinction between Compensation and Confusion:
1. In confusion, there is only one person who is a creditor
and debtor of himself, while in compensation, there are two
persons involved, each of whom is a debtor and a creditor of the
other;
2. In confusion, there is but one obligation, while in
compensation, there are two obligations; and
3. In confusion, there is impossibility of payment, while
in compensation, there is indirect payment.
Distinction between Compensation and
Counterclaim:
 1. While compensation resembles in many respects the
common law setoff and certain counterclaims, it differs therefrom
in that the latter must be pleaded to be effectual, whereas,
compensation takes place by mere operation of law, and
extinguishes reciprocally the two debts as soon as they exist
simultaneously, to the amount of their respective sums;
2. Compensation requires that both debts consist in
money, or if the things due are consumable, they be of the same
kind and quality, while in counterclaim, such requirement is not
provided; and
3. Compensation requires that the two debts must be
liquidated, while in counterclaim, there is no such requirement.
Article 1280. Notwithstanding the provisions of the
preceding article, the guarantor may set up compensation as regards
what the creditor may owe the principal debtor.
A guarantor is a person who promises to pay the creditor
in the event that the principal debtor fails to pay the indebtedness.
But before the creditor can go against a guarantor, the creditor must
first exhaust all possible ways to collect the debt from the principal
debtor unless the guarantor binds himself solidarily with the
principal debtor. If the creditor goes against the guarantor, the latter
can resist payment by invoking compensation between the creditor
and the principal debtor. The phrase “notwithstanding the
provisions of the preceding article” refers to the fact that, even if
the guarantor and the principal creditor are not mutual debtors and
creditors of each other, the obligation of the guarantor can be
extinguished by invoking compensation in so far as the principal
debtor is concerned.
Article 1281. Compensation may be total or partial. When
two debts are of the same amount, there is a total compensation.
Article 1282. The parties may agree upon the compensation
of debts which are not yet due. (VIP)
This applies to conventional or voluntary compensation.
The requisites under Article 1279 does not apply. . This type of
compensation is not legal compensation but contractual
compensation. Hence, if A is indebted to Z in the amount of P1,000
due on April 11, 1997 and Z is indebted to A in the same amount
but due on May 7, 1997, there can be no compensation on April 11,
1997. However, Z and A can agree that, even if May 7, 1997 has
not yet arrived, their mutual indebtedness compensate each other so
that their respective obligations are extinguished.
Article 1283. If one of the parties to a suit over an obligation
has a claim for damages against the other, the former may set it off by
proving his right to said damages and the amount thereof. (VIP)
This Article refers to judicial compensation or set-off.
Pleading and proof of the counterclaim must be made. All the
requisites in Article 1279 must be present, except that at the time of
pleading, the claim need not yet be liquidated. The liquidation or
fixing of the proper sum must be made in the proceedings. The
compensation takes place by the judgement, as to the date the
compensation was pleaded.
Thus, if A files a collection case against B in the amount
of P1,000, B can file a counterclaim in the same amount claiming
damages arising from the same or different transaction and
requesting the court to just set-off the damages. If the court agrees,
then there can be compensation.
18 | P a g e
Article 1284. When one or both debts are rescissible or
voidable, they may be compensated against each other before they are
judicially rescinded or avoided. (VIP)
A rescissible or voidable debt is valid up to the time it is
rescinded or annulled. Hence, if all the requisites for a valid
compensation are present before a contract is rescinded or
annulled, the compensation can occur by operation of law.
Article 1285. The debtor who has consented to the
assignment of rights made by a creditor in favor of a third person,
cannot set up against the assignee the compensation which would
pertain to him against the assignor, unless the assignor was notified by
the debtor at the time he gave his consent, that he reserved his right to
the compensation.
If the creditor communicated the cession to him but the
debtor did not consent thereto, the latter may set up the compensation
of debts previous to the cession, but not of subsequent ones.
If the assignment is made without the knowledge of the
debtor, he may set up the compensation of all credits prior to the same
and also later ones until he had knowledge of the assignment. (VIP)
The purpose of this article is to prevent fraudulent
deprivation of the benefits of total and partial compensation.
Three cases covered by the Article:
1. The assignment may be made with the consent of the
debtor.
2. The assignment may be made with the knowledge but
without the consent or against the will of the debtor.
3. The assignment may be made without the knowledge of
the debtor.
. The first case is when the debtor who has consented to
the assignment of rights made by a creditor in favor of a third
person, cannot set up against the assignee the compensation which
would pertain to him against the assignor, unless the assignor was
notified by the debtor at the time he gave his consent, that he
reserved his right to the compensation. Thus, as an example: X
owes Y P1,000 due on April 12, 1997. Y is likewise indebted to X
in the same amount due on May 6, 1997. On April 14, 1997, Y
assigned his credit to O with the consent of X who does not make
any reservation as to his right of compensation which could occur
on May 6, 1997. On May 7, 1997, O demands payment from X the
amount of P1,000 which has been assigned to him by Y. X cannot
resist payment by invoking that the amount of indebtedness of Y in
his favor may be applied in compensation of the said amount of
P1,000 assigned by Y to O. However, if at the time X gives his
consent to the assignment, he reserves his right to the
compensation, he can validly invoke that the obligation has been
extinguished through compensation.
The second case is when the creditor communicated the
cession to the debtor but the debtor did not consent thereto, the
latter may set up the compensation of debts previous to the cession,
but not of subsequent ones. Here, legal compensation has already
taken place. Thus, as an example: X owes Y P1,000 due on April
12, 1997 and another P2,000 due on May 10, 1997. Y is likewise
indebted to X in the amount of P1,000 due on May 6, 1997 and
another P2,000 due on May 9, 1997. On May 7, 1997, Y assigns all
his credits to O but X does not consent to the assignment. On June
1, 1997, O demands payment from X of the first P1,000 and the
second P2,000 assigned to him by Y. X can resist payment of the
P1,000 on the ground that compensation has taken place because
both have become due before the cession, but he cannot set up
compensation as to the P2,000 which has become due after the
cession.
 The third case is when the assignment is made without
the knowledge of the debtor, he may set up the compensation of all
credits prior to the same and also later ones until he has knowledge
of the assignment. In the example given in the second case, if X is
informed by Y only on May 15, 1997 that he has assigned all his
credits to O, and the latter demands payment of the first P1,000 and
the second P2,000 on June 1, 1997, X can invoke that all the
indebtedness have been extinguished because compensation has set
in.
Article 1286. Compensation takes place by operation of law,
even though the debts may be payable at different places, but there
shall be an indemnity for expenses of exchange or transportation to the
place of payment.
If all the requisites under Article 1279 are present,
compensation takes place by operation of law. The parties need not
notify each other that they intend to have their debts compensated.
Indemnity for expenses of exchange or transportation to the place
of payment can arise only if there is partial compensation. If there
is complete compensation, the parties need not do anything as the
obligations are completely extinguished. Hence, if A owes B
P1,000 payable in Davao and B owes A the same amount payable
in Marikina and both are due, A and B do not have to go to the
places of payment as the compensation here is complete and
therefore both obligations are totally extinguished. But if B owes A
P500, then there is only partial compensation, and A has to go to
Marikina for him to receive the payment of B for the balance of
P500. A, the creditor, should be reimbursed by the debtor the
amount of transportation expenses A has incurred in going to
Marikina because, under Article 1247, the extrajudicial expenses
required for payment shall be for the account of the debtor, unless
it is otherwise stipulated.
Article 1287. Compensation shall not be proper when one of
the debts arises from a depositum or from the obligations of a
depository or of a bailee in commodatum.
Neither can compensation be set up against a creditor who
has a claim for support due by gratuitous title, without prejudice to the
provisions of paragraph 2 of Article 301.
Article 1288. Neither shall there be compensation if one of
the debts consists in civil liability arising from a penal offense.
Compensation will not occur in the following
situations even if there is technically a loan or an indebtedness
existing:
1) Debts arising from a depositum or from the obligations of a
depository. A deposit is constituted from the moment a person receives a
thing belonging to another, with the obligation of safely keeping it and of
returning the same.14 Thus, if A owes B P1,000 due on April 11, 1997, and
A deposited with B an amount of P1,000 only for safekeeping to be
returned on April 11, 1977, there can be no compensation come April 11,
1997 as the obligation of B to return the P1,000 arises from the obligations
of a depository.
2) Debts arising from the obligations of a bailee in
commodatum. The bailee in commodatum acquires the use of the thing
loaned but not its fruits. The bailee is obliged to pay the ordinary expenses
for the use and preservation of the thing loaned.16 The bailee cannot retain
the thing loaned on the ground that the bailor owes him something, even
though it may be by reason of expenses. However, the bailee has the right
of retention for damages mentioned in Article 1951.
3) Debts arising from duty to support. Compensation cannot
likewise apply if the other obligation is one of support to the other party.
Thus, a father, who is required to give support to his son, cannot claim that
he need not give the support considering that his son owes him the same
amount of money. The law provides that this rule on gratuitous support
19 | P a g e
shall be “without prejudice to the provisions to paragraph 2 of Article 301”
of the Civil Code which provides that support in arrears can be
compensated or renounced. Hence if the father has not given his son the
amount of P4,000 which is equivalent to the previous four months of
unremitted financial support, but the same son owes the father P4,000, there
can be compensation in his case. The application of paragraph 2 of Article
301 of the Civil Code is of doubtful applicability in view of the fact that the
said Article 301 of the Civil Code has already been deleted by the New
Family Code.
4) Debts consisting of a civil liability arising from a penal
offense. If A is indebted to B by virtue of a contract of loan and B is
indebted to A by virtue of an award of civil damages in favor of A as a
result of B’s conviction in inflicting physical injuries on A, there can be no
compensation. Also, a criminal violation of the Trust Receipt Law which
makes the obligor financially and civilly liable to the contracting bank to
the extent indicated in the Trust Receipt contract cannot be extinguished by
a claim of compensation of the amount of deposit which the obligor has
with the bank even if, under the law, a person who opens a deposit account
in a bank is technically a creditor of that bank.
Article 1289. If a person should have against him several
debts which are susceptible of compensation, the rules on the
application of payments shall apply to the order of the compensation.
Cross-reference this Article to the application of
payments covering Articles 1252 up to 1254. Hence, if A owes X
P3,000 due on April 11, 1997, and X owes A P3,000 without
interest, and another P3,000 with interest at 12% per annum in case
of non-payment, all due on April 11, 1997, there can be
compensation. If X does not designate the indebtedness to which
compensation will apply, it will be applied to the most onerous
debt which is the interest-bearing P3,000 debt. This is the most
onerous because the payment of the interest is necessarily most
burdensome.
Article 1290. When all the requisites mentioned in Article
1279 are present, compensation takes effect by operation of law, and
extinguishes both debts to the concurrent amount, even though the
creditors and debtors are not aware of the compensation.
(a) Legal compensation takes place automatically
unless there has been a valid waiver thereof.
(b) Compensation which extinguishes principal
obligations also extinguishes accessory obligations.
(c) “To the concurrent amount” means that if one debt
is larger than the other, the balance subsists as debt.
Section 6
NOVATION
Article 1291. Obligations may be modified:
(1) Changing their object or principal conditions;
(2) Substituting the person of the debtor;
(3) Subrogating a third person in the right of the creditor.
Novation is understood as the substitution or change of
an obligation by another, which extinguishes or modifies the first,
either changing its object or principal condition, or subsisting
another in place of the debtor, or subrogating a third person in the
right of the creditor.
Novation under the provisions of the Civil Code refers to
extinctive novation and not modificatory novation. It is a general
rule that no form of words or writing is necessary to give effect to a
novation. Thus, in Goni vs. Court of Appeals, the Supreme Court
upheld that an oral lease agreement can validly novate a contract to
sell provided that it can be shown that the intent to novate was
present and that the terms are truly incompatible in every respect.
Requisites for Novation
1)      There must be a previous valid obligation.
2)      The parties concerned must agree to a new
contract.
3)      The old contract must be extinguished.
4)      There must be a valid new contract
Garcia v. Llamas
Held: Applying the foregoing to the instant case, we hold that no
novation took place.
The parties did not unequivocally declare that the old obligation
had been extinguished by the issuance and the acceptance of the check, or
that the check would take the place of the note. There is no incompatibility
between the promissory note and the check. As the CA correctly observed,
the check had been issued precisely to answer for the obligation.  On the
one hand, the note evidences the loan obligation; and on the other, the
check answers for it.  Verily, the two can stand together.
Neither could the payment of interests -- which, in petitioner's
view, also constitutes novation -- change the terms and conditions of the
obligation.  Such payment was already provided for in the promissory note
and, like the check, was totally in accord with the terms thereof.
Also unmeritorious is petitioner's argument that the obligation
was novated by the substitution of debtors.  In order to change the person of
the debtor, the old one must be expressly released from the obligation, and
the third person or new debtor must assume the former's place in the
relation.
TWO FORMS OF NOVATION:
1. Extinctive – when an old obligation is terminated by
the creation of a new one.
2. Modificatory – the old obligation subsists insofar as it
remains compatible and thus novation is merely amendatory.
According to Object or Purpose
1. Real/Objective Novation – the cause or consideration,
principal object or conditions of the obligation are changed.
Example: Dation in Payment – the parties with a prior monetary
obligation agree to change the object from the sum of money to a
property. Dation in payment actually partakes the nature of an
objective novation since the object of the obligation is changed,
from a monetary obligation to an obligation to give a
determinate/specific thing.
Objective novation does not always entail a change in
object, it may also pertain to a change in the conditions of the
obligation. Example: From the obligation being subject to a
suspensive condition to a resolutory period. Those are certain
changes to the principal conditions.
2. Personal/Subjective– when there is a change in the
person of either the debtor or the creditor.
3. Mixed – combination of objective and subjective.
As to extent/effect
1. Total or Extinctive Novation
2. Partial or Modificatory Novation
This is not to say that in every case of novation the old
obligation is necessarily extinguished. Our Civil Code now admits
of the so-called imperfect or modificatory novation where the
original obligation is not extinguished but modified or changed in
some of the principal conditions of the obligation. Thus, article
1291 provides that obligations may be modified.
While the Civil Code permits the subsequent
modification of existing obligations, these obligations cannot be
20 | P a g e
deemed modified in the absence of clear evidence to this effect.
Novation is never presumed, and the animus novandi, whether total
or partial, must appear by express agreement of the parties, or by
their acts that are too clear and unequivocal to be mistaken.
Accordingly, the burden to show the existence of novation lies on
the party alleging the same.
Modomo v. Sps. Layug
Held: Applying the foregoing principles, the Court finds that
while there has been a modificatory novation of the Contract of Lease
through the parties' subsequent verbal agreement, such novation relates
solely to the lowering of the monthly rental fee from Php170,000.00 to
Php150,000.00.
The provisions governing escalation and real estate tax payment,
as set forth under the Contract of Lease and modified by the subsequent
written Addenda, stand.
The modification of the monthly rental fee through the parties'
subsequent verbal agreement is confirmed by the evidence on record, and
Spouses Layug's own submissions. But Spouses Modomo failed to establish
that the provisions governing escalation and proportional payment of real
estate tax payment have been similarly modified. To be sure, neither the
first nor second Addendum has the effect of: (i) waiving the imposition of
escalation; or (ii) completely absolving Spouses Modomo from real estate
tax liability. On the contrary, these Addenda reinforce the parties' intention
to: (i) impose annual escalation at the rates set forth under the Contract of
Lease; and (ii) impose proportional payment of real estate tax during the
subsistence of the lease.
If the parties truly intended to further modify the Contract of
Lease by deleting the provisions on escalation and proportional payment of
real estate tax, they would have done so through  another written document,
as they have consistently done with all modifications relating to such
matters. It must be stressed that unlike the modification of the monthly
rental fee which is supported by several pieces of documentary evidence
and confirmed by Spouses Layug's own submissions, the modification of
the provisions on annual escalation and proportional payment of real estate
tax is supported solely by Spouses Modomo's own self-serving statements.
Article 1292. In order that an obligation may be
extinguished by another which substitutes the same, it is imperative
that it be so declared in unequivocal terms, or that the old and the new
obligation be on every point incompatible with each other.
Novation may be express or implied. It is express when
the new obligation declares in unequivocal terms that the old
obligation is extinguished.  It is implied when the new obligation is
incompatible with the old one on every point.
Implied novation is done by making substantial changes
(a) in the object or subject matter of the contract; (b) in the cause or
consideration of the contract; (c) in the principal conditions of the
contract.
There can be no novation unless two distinct and
successive binding contracts take place, with the later one designed
to replace the preceding convention. Also, if a subsequent contract
is designed to novate a previous contract and not all parties to the
original contract consented to or are made parties in the subsequent
contract, there can be no novation. Modifications introduced before
a bargain becomes obligatory can in no sense constitute novation in
law. An obligation which intends to substitute another obligation
extinguishes the latter obligation only if it so expressly declares in
certain terms or when the old obligation is completely incompatible
with the new obligation in every aspect that there can be no other
import but to wipe out the old obligation by the new one. Novation
therefore can never be presumed.
Paradigm v. BPI
Held: The well-settled rule is that novation is never presumed.
Novation will not be allowed unless it is clearly shown by express
agreement, or by acts of equal import. Thus, to effect an objective novation
it is imperative that the new obligation expressly declare that the old
obligation is thereby extinguished, or that the new obligation be on every
point incompatible with the new one. In the same vein, to effect a
subjective novation by a change in the person of the debtor it is necessary
that the old debtor be released expressly from the obligation, and the
third person or new debtor assumes his place in the relation. There is
no novation without such release as the third person who has assumed the
debtor's obligation becomes merely a co-debtor or surety.  Art. 1236. The creditor is not bound to accept payment or
In the present case, PDCP failed to prove by preponderance of
evidence that Sengkon was already expressly released from the obligation
and that STI assumed the former's obligation. Again, as correctly pointed
out by the CA, the Deed of Assumption of Line/Loan with Mortgage (Deed
of Assumption) which was supposed to embody STI's assumption of all the
obligations of Sengkon under the line, including but not necessarily limited
to the repayment of all the outstanding availments thereon, as well as all
applicable interests and other charges, was not signed by the parties.
Contrary to PDCP's claim, the CA's rejection of its claim of
novation is not based on the absence of the mortgagor's conformity to the
Deed of Assumption. The CA's rejection is based on the fact that the non-
execution of the Deed of Assumption by Sengkon, STI and FEBTC
rendered the existence of novation doubtful because of lack of clear proof
that Sengkon is being expressly released from its obligation; that STI was
already assuming Sengkon's former place in the contractual relation; and
that FEBTC is giving its conformity to this arrangement. While FEBTC
indeed approved Sengkon's request for the "change in account name" from
Sengkon to STI, such mere change in account name alone does not meet the
required degree of certainty to establish novation absent any other
circumstance to bolster said conclusion.
Celones v. Metrobank
Held: Examination of the MOA showed no express stipulation
as to the novation or extinction of the CNAR. Thus, for implied novation to
exist, it is necessary to determine whether the CNAR and the MOA are
incompatible on every point such that they cannot be reconciled and stand
together.
Under the CNAR, it is provided that Metrobank approved the
offer of Spouses Celones to redeem the property in the amount of P55
Million. While under the MOA, Metrobank assigned all its rights and
interests to Atty. Dionido over the foreclosed properties including the
issuance of a certificate of redemption.
After careful scrutiny of the records, we find that the CNAR
only deals with the redemption right of Spouses Celones while the MOA
deals with the assignment of credit of Metrobank to Atty. Dionido. As such,
the CNAR and the MOA can be reconciled and can both stand together.
Under the MOA, Metrobank assigned all its rights and interests
over the foreclosed properties to Atty. Dionido. "An assignment of credit
has been defined as the process of transferring the right of the assignor to
the assignee who would then have the right to proceed against the
debtor."[33] Atty. Dionido being an assignee of Metrobank, he merely steps
into the shoes of the assignor, Metrobank. Atty. Dionido can acquire no
greater right than that pertaining to his assignor. Thus, when Atty. Dionido
agreed to the assignment of Metrobank's rights and interests over the
foreclosed properties under the MOA, he acquires exactly the rights and
interests over the foreclosed properties as of the date of the signing of the
MOA.
Unfortunately for Atty. Dionido, he merely acquired what right
Metrobank has, as of the date of the signing of the MOA, which was the
issuance of a Certificate of Redemption, because as of that date, the
foreclosed properties have already been redeemed by Spouses Celones from
Metrobank. The fact that Spouses Celones had already redeemed the
foreclosed properties was evidenced by the fact that as soon as Metrobank
was paid the redemption amount, the latter issued payment slips in the
name of Spouses Celones. Further, after the payment of the P55 Million,
Metrobank caused the dismissal of the civil cases it filed for issuance of
writ of possession due to the fact that the foreclosed properties had already
been redeemed by the Spouses Celones. Had the P55 Million been paid by
Atty. Dionido to Metrobank as a consideration for the assigment of credit,
the receipt should have been under the name of Atty. Dionido and not under
the name of Spouses Celones.
Finding that the foreclosed properties had already been
redeemed by Spouses Celones, the Certificate of Redemption should
naturally be issued by the assignee, Atty. Dionido. To accept his contention
21 | P a g e
that the redemption period of the foreclosed properties had already lapsed
and that Spouses Celones has lost their right over the foreclosed properties
is to go against the basic principle of assigment of credit that the assignee
cannot acquire no greater right than the assignor.
Atty. Dionido however is not left without any remedy or
recourse against Spouses Celones. Under Article 1236 of the Civil Code, it
is provided that:
performance by a third person who has no interest in the fulfillment of the
obligation, unless there is a stipulation to the contrary.
Whoever pays for another may demand from the debtor
what he has paid, except that if he paid without the knowledge or
against the will of the debtor, he can recover only insofar as the
payment has been beneficial to the debtor. 
Thus, Atty. Dionido has the right to demand payment of the
amount of P55 Million from Spouses Celones since it is undisputed that
such amount came from Atty. Dionido. It is unjust enrichment on the part
of Spouses Celones to acquire the amount ofP55 Million and not be
required to pay the same.
Article 1293. Novation which consists in substituting a new
debtor in the place of the original one, may be made even without the
knowledge or against the will of the latter, but not without the consent
of the creditor. Payment by the new debtor gives him the rights
mentioned in Articles 1236 and 1237.
Article 1294. If the substitution is without the knowledge or
against the will of the debtor, the new debtor’s insolvency or non-
fulfillment of the obligation shall not give rise to any liability of the
original debtor.
Under this provision, there are two forms of novation by
substituting the person of the debtor, and they are:
(1) expromision and (2) delegacion. In the former, the initiative for
the change does not come from the debtor and may even be made
without his knowledge, since it consists in a third person assuming
the obligation. As such, it logically requires the consent of the third
person and the creditor. In the latter, the debtor offers and the
creditor accepts a third person who consents to the substitution and
assumes the obligation, so that the intervention and the consent of
these three persons are necessary. The Supreme Court has
consistently reiterated the indispensability of the creditor's consent
to the novation, whether expromision or delegacion, given that the
"substitution of one debtor for another may delay or prevent the
fulfillment of the obligation by reason of the financial inability or
insolvency of the new debtor; hence, the creditor should agree to
accept the substitution in order that it may be binding on him."
 The well settled rule is that novation is never presumed.
Novation will not be allowed unless it is clearly shown by express
agreement, or by acts of equal import. Thus, to effect an objective
novation it is imperative that the new obligation expressly declare
that the old obligation is thereby extinguished, or that the new
obligation be on every point incompatible with the new one. In the
same vein, to effect a subjective novation by a change in the person
of the debtor it is necessary that the old debtor be released
expressly from the obligation, and the third person or new debtor
assumes his place in the relation. There is no novation without such
release as the third person who has assumed the debtor's obligation
becomes merely a co-debtor or surety [BPI v. Domingo].
Requisites for delegacion
(a) Initiative comes from the old debtor
(b) All the parties concerned must consent or agree.
BPI v. Domingo
 Held: The burden of establishing a novation is on the party who
asserts its existence. Contrary to the findings of the Court of Appeals and
the RTC, Amador failed to discharge such burden as he was unable to
present proof of the clear and unmistakable consent of BPI to the
substitution of debtors.
Irrefragably, there is no express consent of BPI to the
substitution of debtors. The acceptance by a creditor of payments from a
third person, who has assumed the obligation, will result merely to the
addition of debtors and not novation. The creditor may therefore enforce the
obligation against both debtors. As the Court pronounced in Magdalena
Estates, Inc. v. Rodriguez, "[t]he mere fact that the creditor receives a
guaranty or accepts payments from a third person who has agreed to
assume the obligation, when there is no agreement that the first debtor shall
be released from responsibility, does not constitute a novation, and the
creditor can still enforce the obligation against the original debtor." The
Court reiterated in Quinto v. People that "[n]ot too uncommon is when a
stranger to a contract agrees to assume an obligation; and while this may
have the effect of adding to the number of persons liable, it does not
necessarily imply the extinguishment of the liability of the first debtor.
Absent proof that BPI gave its clear and unmistakable consent to
release the spouses Domingo from the obligation to pay the car loan,
Carmelita is simply considered an additional debtor. Consequently, BPI can
still enforce the obligation against the spouses Domingo even 30 months
after it had started accepting payments from Carmelita.
Interport v. SSI
Held: The SEC correctly categorized the assignment of the
subscription agreements as a form of novation by substitution of a new
debtor and which required the consent of or notice to the creditor. We
agree. Under the Civil Code, obligations may be modified by: (1) changing
their object or principal conditions; or (2) substituting the person of the
debtor; or (3) subrogating a third person in the rights of the
creditor. Novation, which consists in substituting a new debtor in the place
of the original one, may be made even without the knowledge or against the
will of the latter, but not without the consent of the creditor. In this case, the
change of debtor took place when R.C. Lee assigned the Oceanic shares
under Subscription Agreement Nos. 1805, and 1808 to 1811 to SSI so that
the latter became obliged to settle the 75% unpaid balance on the
subscription.
The SEC likewise did not err in appreciating the fact that
Interport was duly notified of the assignment when SSI tendered its
payment for the 75% unpaid balance, and that it could not anymore refuse
to recognize the transfer of the subscription that SSI sufficiently established
by documentary evidence.
If the old debtor is substituted without the knowledge or
consent of the old debtor and the obligation is extinguished, there is
also a novation called expromission. In both delegacion and
expromission, the consent of the creditor is indispensable.
Requisites for expromission (1294)
(a) The initiative must come from a third person
(b) The new debtor and the creditor must consent
(c) The old debtor must be excused or released from his
obligation.
Article 1295. The insolvency of the new debtor, who has
been proposed by the original debtor and accepted by the creditor,
shall not revive the action of the latter against the original obligor,
except when said insolvency was already existing and of public
knowledge, or known to the debtor, when he delegated his debt.
This refers to delegacion. Note that the Article deals only
with insolvency, and not with other causes of non-fulfillment.
If the old debtor proposes to the creditor that he be
substituted by a new debtor, with the understanding that he (the old
debtor) will be released from the obligation, and the creditor
accepts the proposal, and the new debtor assumes the indebtedness,
there is a novation that occurs and it extinguishes the obligation of
22 | P a g e
the old debtor to make payment. In the event that the new debtor is
insolvent, the creditor cannot go against the old debtor to collect
the indebtedness as the latter’s obligation has already been
extinguished.
However, the creditor can go against the old debtor in
two cases. The first case is when the insolvency of the new debtor
has already been existing and of public knowledge when the old
debtor delegated the debt. It is enough that the insolvency has been
existing and of public knowledge at the time of the delegation. The
second case is when the insolvency of the new debtor is known to
the old debtor when he delegates his debt. In both cases, the
creditor must not have knowledge of the insolvency of the new
debtor. Otherwise, he cannot claim the benefit of the exceptions as
he would be considered in estoppel. In both cases also, the
insolvency must have existed at the time the old debtor delegated
his debt. While it may seem that the “already-existing” requirement
applies only to the first case, this is not so as it should likewise
apply to the second case. In fact, an already-existing insolvency is
necessarily implied in the second case. Otherwise, the old debtor
would not have known such insolvency.
Article 1296. When the principal obligation is extinguished
in consequence of a novation, accessory obligations may subsist only
insofar as they may benefit third persons who did not give their
consent.
The accessory always follows the principal. If the
principal is extinguished, the accessory goes with it. Hence, all
accessory obligations such as those arising from a contract of
mortgage, guarantee, and pledge are likewise extinguished.
However, the law likewise says that the accessory obligation may
subsist only insofar as they may benefit third persons who do not
give their consent. For example, X borrows P100,000 from Y to be
paid after 12 months. The loan is secured by a real estate mortgage
of Z’s house. The mortgage is to be effective only for 12 months.
In constituting his house as security for the loan of X, Z agrees to
be paid by X the amount of P1,000 for as long as the loan secured
by the mortgage exists. However, instead of paying Z the said
amount, X will just apply the P1,000 to the P12,000 indebtedness
of Z in his favor such that by the time the 12-month loan matures,
the indebtedness of Z would have already been paid. This is made
because Z has no cash to pay the P12,000 obligation to X. On the
eleventh month, X and Y decide to consolidate the P100,000 loan
with the other P700,000 loan which X owes in favor of Y and, in so
doing, they expressly agreed in the consolidation-document that the
loan of P100,000 shall in effect cease and be integrated in the
P700,000 with a lower interest rate and payable for a longer period
of time without any collateral. Z did not consent to this
arrangement as it would clearly prejudice him. His mortgage
therefore may subsist for the remaining month attached to the
principal new obligation.
Article 1297. If the new obligation is void, the original one
shall subsist, unless the parties intended that the former relation should
be extinguished in any event.
This Article highlights one of the essential requisites of a
valid novation, namely, the new obligation must be valid and
effective. Thus, if the new obligation is void, there is no novation,
and the old obligation generally will subsist.
A subsequent void obligation intended to novate an old
one has no legal effect and will be considered as not having been
agreed upon in the first place. Hence, the original obligation shall
subsist. However, if in coming up with the new but void obligation,
the parties agree that it shall in any event extinguish the old
obligation, then such old obligation will not be revived. Hence, if X
is bound to give Y a car and this is novated by binding X to give
instead his future inheritance to Y, which he will get upon the
death of his father, the latter new obligation is void because,
according to the law, future inheritance cannot be the object of a
contract.20 This new void obligation will not be deemed to have
been entered into and the old obligation will be revived. However,
if the parties agree that the act of entering into the new but void
obligation will in any event extinguish the old one, then the latter
will not be revived.
Article 1298. The novation is void if the original obligation
was void, except when annulment may be claimed only by the debtor,
or when ratification validates acts which are voidable.
Novation of a principal obligation definitely presupposes
a previously existing obligation which is valid. If the previously
existing obligation is void, a subsequent obligation intending to
novate it shall likewise be void unless it is clear that such
subsequent one can stand on itself and without any reference to the
old one. If the original obligation is merely annulable or voidable,
it means that it is valid up to the time it is annulled. Hence, it can
be novated before it is annulled. For example, if, through force and
intimidation, X was obliged to give Y a car and later the prestation
was novated, again through force and intimidation, in such a way
that X is now obliged to give Y not a car but a house, it is only X
who can file a case for annulment of the obligation, and if he does
not do so, then the new obligation may be given effect. Also, if,
after the obligation was novated, X asks for an increase in the price
of the house and Y agrees, then the obligation is ratified because of
the act of X.
Article 1299. If the original obligation was subject to a
suspensive or resolutory condition, the new obligation shall be under
the same condition, unless it is otherwise stipulated.
General rule – the conditions attached to the old
obligation are also attached to the new obligation.
Exception – if there is a contrary stipulation.
If, for example X is bound to give Y a house only if he
passes his law course and thereafter the obligation is novated such
that X instead is bound to give Y a car without any statement as to
the suspensive condition, it shall be deemed that the giving of the
car is likewise subject to Y passing his law course. In order not to
subject the obligation to the previous suspensive condition, there
must be an express statement to that effect in the new obligation as
novated.
Article 1300. Subrogation of a third person in the rights of
the creditor is either legal or conventional. The former is not
presumed, except in cases expressly mentioned in this Code; the latter
must be clearly established in order that it may take effect.
Subrogation (extinctive subjective novation by change of
the creditor) is a transfer to a third person of all the rights
appertaining to the creditor, including the right to proceed against
guarantors, or possessors or mortgages, subject to any legal
provision or any modification that may be agreed upon.
Legal subrogation is that which takes effect by mandate
of law and does not proceed from an agreement of the parties.
Hence, the law which forms the basis of the subrogation must be
clearly identified and invoked to enforce the rights pertinent
23 | P a g e
thereto. Conventional subrogation, which in the first place is never
lightly inferred, must be clearly established by the unequivocal
terms of the substituting obligation or by the evident
incompatibility of the new and old obligations on every point. Both
kinds of subrogation principally involve the change in the person of
the creditor. Thus, if X is indebted to B for P10,000.00 secured by
a mortgage on X’s house and, for consideration, Y, with the
consent of X, assumes the credit with the stipulation that X’s
obligation against B is extinguished such that B can no longer
collect from X, Y becomes the new creditor who can enforce the
claim, and if X cannot pay, Y can foreclose on the mortgage.
Ledonio v. Court of Appeals
Held: Article 1300 of the Civil Code provides that conventional
subrogation must be clearly established in order that it may take effect.
Since it is petitioner who claims that there is conventional subrogation in
this case, the burden of proof rests upon him to establish the same by a
preponderance of evidence.
Since the Assignment of Credit, dated 1 April 1989, is just as its
title suggests, then petitioner's consent as debtor is not necessary in order
that the assignment may fully produce legal effects. The duty to pay does
not depend on the consent of the debtor; otherwise, all creditors would be
prevented from assigning their credits because of the possibility of the
debtors' refusal to give consent. It bears to emphasize that even if the
consent of petitioner as debtor is unnecessary for the validity and
enforceability of the assignment of credit, nonetheless, the petitioner must
have knowledge, acquired either by formal notice or some other means, of
the assignment so that he may pay the debt to the proper party, which shall
now be the assignee. This much can be gathered from a reading of Article
1626 of the Civil Code providing that, "The debtor who, before having
knowledge of the assignment, pays his creditor shall be released from the
obligation."
Article 1301. Conventional subrogation of a third person
requires the consent of the original parties and of the third person.
Conventional subrogation must be agreed upon by the
debtor, new creditor and the old creditor. It is therefore contractual.
For the replacement or substitution of the creditor to be legally
complete in all aspects, all parties must agree to the same. Hence, if
the debtor does not agree and the third-party makes payment to the
creditor, such third party can demand payment from the debtor up
to the extent the latter has been benefited, but cannot compel the
creditor to subrogate him (third party) in his rights, such as those
arising from mortgage, guaranty, or penalty.
Distinctions between conventional subrogation and
assignment of credit
The Court has consistently adhered to the foregoing
distinction between an assignment of credit and a conventional
subrogation. Such distinction is crucial because it would determine
the necessity of the debtor's consent. In an assignment of credit, the
consent of the debtor is not necessary in order that the assignment
may fully produce the legal effects. What the law requires in an
assignment of credit is not the consent of the debtor, but merely
notice to him as the assignment takes effect only from the time he
has knowledge thereof. A creditor may, therefore, validly assign
his credit and its accessories without the debtor's consent. On the
other hand, conventional subrogation requires an agreement among
the parties concerned -the original creditor, the debtor, and the new
creditor. It is a new contractual relation based on the mutual
agreement among all the necessary parties [Henson v. UCPB]
Licaros v. Gatmaitan
Held: An assignment of credit has been defined as the process of
transferring the right of the assignor to the assignee who would then have
the right to proceed against the debtor. The assignment may be done
gratuitously or onerously, in which case, the assignment has an effect
similar to that of a sale.
On the other hand, subrogation has been defined as the transfer
of all the rights of the creditor to a third person, who substitutes him in all
his rights. It may either be legal or conventional. Legal subrogation is that
which takes place without agreement but by operation of law because of
certain acts. Conventional subrogation is that which takes place by
agreement of parties.
The general tenor of the foregoing definitions of the terms
“subrogation” and “assignment of credit” may make it seem that they are
one and the same which they are not. A noted expert in civil law notes their
distinctions thus:
“Under our Code, however, conventional subrogation is not
identical to assignment of credit. In the former, the debtor’s consent is
necessary; in the latter it is not required. Subrogation extinguishes the
obligation and gives rise to a new one; assignment refers to the same right
which passes from one person to another. The nullity of an old obligation
may be cured by subrogation, such that a new obligation will be perfectly
valid; but the nullity of an obligation is not remedied by the assignment of
the creditor’s right to another.”
For our purposes, the crucial distinction deals with the necessity
of the consent of the debtor in the original transaction. In an assignment of
credit, the consent of the debtor is not necessary in order that the
assignment may fully produce legal effects. What the law requires in an
assignment of credit is not the consent of the debtor but merely notice to
him as the assignment takes effect only from the time he has knowledge
thereof. A creditor may, therefore, validly assign his credit and its
accessories without the debtor’s consent. On the other hand, conventional
subrogation requires an agreement among the three parties concerned – the
original creditor, the debtor, and the new creditor. It is a new contractual
relation based on the mutual agreement among all the necessary parties.
Thus, Article 1301 of the Civil Code explicitly states that “(C)onventional
subrogation of a third person requires the consent of the original parties and
of the third person.
Article 1302. It is presumed that there is legal subrogation:
(1) When a creditor pays another creditor who is preferred,
even without the debtor’s knowledge;
(2) When a third person, not interested in the obligation,
pays with the express or tacit approval of the debtor;
(3) When, even without the knowledge of the debtor, a
person interested in the fulfilment of the obligation pays, without
prejudice to the effects of confusion as to the latter’s shares.
Article 1291 of the New Civil Code provides that the
subrogation of a third person to the rights of the creditor is one of
the means to modify obligations. Subrogation, sometimes referred
to as substitution, is "an arm of equity that may guide or even force
one to pay a debt for which an obligation was incurred but which
was in whole or in part paid by another." It transfers to the person
subrogated the credit, with all the rights appertaining thereto, either
against the debtor or against third persons.
Subrogation of a third person in the rights of a creditor
may either be legal or conventional. There is legal subrogation
when: (a) a creditor pays another preferred creditor, even without
the debtor's knowledge; (b) a third person who is not interested in
the obligation pays with the express or tacit approval of the debtor;
and (c) a person interested in the fulfilment of the obligation pays,
even without the knowledge of the debtor.
The first case is when a creditor pays another creditor
who is preferred, even without the debtor’s knowledge. Under our
law, claims for the unpaid price of movables sold, on said
movables, so long as they are in the possession of the debtor, up to
the value of the same is a preferred credit. Hence, any creditor who
owns such credit is a preferred creditor and if another creditor pays
off the unpaid purchase price of the movable, such paying creditor
will be presumed to have been subrogated to the rights of the
creditor who originally owned the credit. Title XIX, Book IV of the
24 | P a g e
Civil Code contains all the provisions on concurrence and
preference of credits.
The second case is when a third person, not interested in
the obligation, pays with the express or tacit approval of the debtor.
In this case, the debtor, in effect, agrees to the payment and hence
there exists something similar to a conventional subrogation. The
presumption of legal subrogation will arise from this situation.
The third case is when, even without the knowledge of
the debtor, a person interested in the fulfillment of the obligation
pays, without prejudice to the effects of confusion as to the latter’s
share. A person interested in the fulfillment of the obligation is one
who will be affected by payment of the debtor. Thus, a guarantor
will be released if the principal obligation of the debtor is paid.
This is also true with respect to a surety or a solidary debtor. For
example, A is indebted to M. The loan was secured by a real estate
mortgage constituted by X on his own property for the benefit of
A’s debt. In the event X pays M, the presumption of legal
subrogation will arise in favor of X even if such payment was made
without the consent of A. Since there is merger or confusion of the
characters of the creditor and the mortgagor, the real estate
mortgage is extinguished.
A clear reading, however, of Article 1302 of the New
Civil Code would lead to a different conclusion. The, consent or
approval of the debtor is required only if a third person who is
not interested in the fulfilment of the obligation pays such. On
the other hand, no such requirement exists in cases of payment
by a creditor to another creditor who is preferred, and by a
person interested in the fulfilment of the obligation. Notably,
Article 1302 (1) and (3) does not require the debtor's knowledge
[Figuera v. Remedios].
Figuera v. Remedios
Held: In the present case, Figuera based her claim on the third
type of subrogation. She claims that as the EIDC's new owner, she is
interested in fulfilling Ang's obligation to pay the utility bills. Since the
payment of the bills was long overdue prior to the assignment of business
rights to Figuera, the failure to settle the bills would eventually result in
"the disconnection of the electricity and telephone services, ejectment from
the office premises, and resignation by some, if not all, of the company's
employees with the possibility of subsequent labor claims for sums of
money." These utilities are obviously necessary for the continuation of
Figuera's business transactions.
A person interested in the fulfilment of the obligation is one who
stands to be benefited or injured in the enforcement of the obligation. The
Court agrees with Figuera that it became absolutely necessary for her to
pay the bills since Ang did not do so when the obligation became due.
Therefore, legal subrogation took place despite the absence of Ang's
consent to Figuera's payment of the EIDC bills. Figuera is now deemed as
Ang's creditor by operation of law.
Article 1303. Subrogation transfers to the person subrogated
the credit with all the rights thereto appertaining, either against the
debtor or against third persons, be they guarantors or possessors of
mortgages, subject to stipulation in a conventional subrogation.
This provision states the general effect of subrogation.
Euphemistically speaking, the third person “steps into the shoes” of
the creditor and becomes the new creditor. However, in
conventional subrogation, the parties may stipulate the nature,
limits, extent and scope of the subrogation provided these are not
contrary to law, morals, good customs, public order, or public
policy.
Distinction between legal subrogation and assignment
of credit
Henson v. UCPB
 Held: Legal subrogation produces the same effects as
assignment and also, no new obligation is created between the
subrogee/new creditor and debtor. As observed in commentaries on the
subject: The effect of legal subrogation is to transfer to the new creditor the
credit and all the rights and actions that could have been exercised by the
former creditor either against the debtor or against third persons, be they
guarantors or mortgagors. Simply stated, except only for the change in the
person of the creditor, the obligation subsists in all respects as before the
novation.
Unlike assignment, however, legal subrogation, to produce
effects, does not need to be agreed upon by the subrogee and subrogor,
unlike the need of an agreement between the assignee and assignor. As
mentioned, "[l]egal subrogation is that which takes place without agreement
but by operation of law because of certain acts," as in the case of payment
of the insurer under Article 2207 of the Civil Code.
Distinction between legal subrogation and
conventional subrogation
Henson v. UCPB
Legal subrogation is not equivalent to conventional subrogation,
no new obligation is created by virtue of the insurer's payment under
Article 2207 of the Civil Code; also, as legal subrogation is not the same as
an assignment of credit ( as the fonner is in fact, called an "equitable
assignment"), no privity of contract is needed to produce its legal effects.
Accordingly, "the insurer can take nothing by subrogation but the rights of
the insured, and is subrogated only to such rights as the insured possesses.
This principle has been frequently expressed in the form that the rights of
the insurer against the wrongdoer cannot rise higher than the rights of the
insured against such wrongdoer, since the insurer as subrogee, in
contemplation of law, stands in the place of the insured and succeeds to
whatever rights he may have in the matter. Therefore, any defense which a
wrongdoer has against the insured is good against the insurer subrogated to
the rights of the insured," and this would clearly include the defense of
prescription.
On the issue of prescription
Henson v. UCPB
Date of finality of judgement: August 29, 2019
The Supreme Court sets the following guidelines relative to the
application of Vector and this Decision vis-a-vis the prescriptive period in
cases where the insurer is subrogated to the rights of the insured against the
wrongdoer based on a quasi-delict:
1. For actions of such nature that have already been filed
and are currently pending before the courts at the time of the finality
of this Decision, the rules on prescription prevailing at the time the
action is filed would apply. Particularly:
(a) For cases that were filed by the subrogee-insurer during the
applicability of the Vector ruling (i.e., from Vector's finality on August 15, 2013 up
until the finality of this Decision), the prescriptive period is ten (10) years from the
time of payment by the insurer to the insured, which gave rise to an obligation created
by law.
Rationale: Since the Vector doctrine was the prevailing rule at this time,
issues of prescription must be resolved under Vector's parameters.
(b) For cases that were filed by the subrogee-insurer prior to the
applicability of the Vector ruling (i.e., before August 15, 2013), the prescriptive period
is four (4) years from the time the tort is committed against the insured by the
wrongdoer.
Rationale: The Vector doctrine, which espoused unique rules on legal
subrogation and prescription as aforedescribed, was not yet a binding precedent at this
time; hence, issues of prescription must be resolved under the rules prevailing before
Vector, which, incidentally, are the basic principles of legal subrogation vis-a-vis
prescription of actions based on quasi-delicts.
2. For actions of such nature that have not yet been filed at
the time of the finality of this Decision:
(a) for cases where the tort was committed and the consequent loss/injury
against the insured occurred prior to the finality of this Decision, the subrogee-insurer
is given a period not exceeding four (4) years from the time of the finality of this
Decision to file the action against the wrongdoer; provided, that in all instances, the
total period to file such case shall not exceed ten (10) years from the time the insurer is
subrogated to the rights of the insured.
25 | P a g e
Rationale: The erroneous reckoning and running of the period of
prescription pursuant to the Vector doctrine should not be taken against any and all
persons relying thereon because the same were based on the thenprevailing
interpretation and construction of the Court. Hence, subrogeesinsurers, who are,
effectively, only now notified of the abandonment of Vector, must be given the benefit
of the present doctrine on subrogation as ruled in this Decision.
However, the benefit of the additional period (i.e., not exceeding four [ 4]
years) under this Decision must not result in the insured being given a total of more
than ten (10) years from the time the insurer is subrogated to the rights of the insured
(i.e., the old prescriptive period in Vector); otherwise, the insurer would be able to
unduly propagate its right to file the case beyond the ten (10)-year period accorded by
Vector to the prejudice of the wrongdoer.
(b) For cases where the tort was committed and the consequent loss/injury
against the insured occurred only upon or after the finality of this Decision, the Vector
doctrine would hold no application. The prescriptive period is four (4) years from the
time the tort is committed against the insured by the wrongdoer.
Rationale: Since the cause of action for quasi-delict and the consequent
subrogation of the insurer would arise after due notice of Vector's abandonment, all
persons would now be bound by the present doctrine on subrogation as ruled in this
Decision.
Article 1304. A creditor, to whom partial payment has been
made, may exercise his right for the remainder, and he shall be
preferred to the person who has been subrogated in his place in virtue
of the partial payment of the same credit.
This provision contemplates a situation where a debt has
been partially paid by a third person, with the consent of the debtor.
If there is no consent of the debtor, the only right of the third party
who made the payment is to be reimbursed of the amount he has
partially paid pursuant to Article 1236. Article 1237 states that
whoever pays on behalf of the debtor without the knowledge or
against the will of the latter, cannot compel the creditor to
subrogate him his rights, such as those arising from mortgage,
guaranty, or penalty. In the event partial payment is made by a
third person which extinguishes the debtor’s obligation to pay the
creditor up to the extent of said partial payment, the creditor can
still demand from the debtor the balance of the obligation. In the
meantime, the third party who made the partial payment can
likewise demand from the debtor what he has paid to the creditor.
In the event that the creditor and the third party demands from the
debtor at the same time the payment of what is due them, the
creditor will be preferred. He will be paid first as the law states that
he is preferred.
References:
 Assigned cases
 Paras, E (2016). Civil Code of the Philippines Annotated
Volume Four
 Sta. Maria Jr., M (2003), Obligations and Contracts: Text and
Cases
 2018 Obligations and Contracts. Atty. Alabastro lecture
transcriptions