DEFECTIVE CONTRACTS

Atty. Justine B. Tudias

TYPES OF DEFECTIVE CONTRACTS
1.Rescissible Contracts – Contract where all the essential elements are present,
hence, legally effective, but in cases established by law, the remedy of
rescission is granted in the interest of equity. These contracts are VALID until
rescinded.

Rescission - equitable remedy to secure reparation of damages caused the

parties or even third persons by a valid contract, by restoring things to their
condition prior to the celebration of such contract; this is granted on the basis of
equity.

Purpose - restore the parties to their original situation or to their situation prior to
the entering into the contract.
TYPES OF DEFECTIVE CONTRACTS
2.Voidable Contracts – Contract that possesses all the essential
requisites of a valid contract but one of the parties is incapable of
giving consent, or the consent is vitiated by VIMFU. These contracts
are VALID until annulled.

Annulment – remedy provided by law, for reason of public interest,

for the declaration of the inefficacy of a contract based on a
defect or vice in the consent of one of the contracting parties in
order to restore them to their original position in which they were
before the contract was executed.
TYPES OF DEFECTIVE CONTRACTS
3.Unenforceable Contracts – These are contracts that CANNOT BE
SUED upon or ENFORCED, unless ratified. Meaning, the contract
has no effect now but it may be effective upon ratification.

Ratification – to confirm or to approve the contract.

4.Void Contracts – These contracts has NO EFFECT at all. It is as if

the contract is inexistent.
RESCISSIBLE CONTRACTS
RESCISSIBLE CONTRACTS
Requisites for Rescission:
1. A validly agreed contract;
2. There is lesion or pecuniary prejudice to a party or a third person;
3. Rescission is based upon a case provided by law; (Art. 1381)
4. There are no other legal remedy to obtain reparation of Damages;
(Art. 1383)
5. The action must be filed within the prescriptive period; (Art. 1389)
6. Party seeking rescission must be able to return what he is obliged to
restore by reason of the contract; and (Art. 1385)
7. Object of the contract is not legally in the possession of third persons in
good faith; (Art. 1385; 1388)
CASES PROVIDED BY LAW (ART. 1381)
Article 1381. The following contracts are rescissible: (FLOWA)
(1) Those which are entered into by guardians whenever the wards whom they
represent suffer lesion by more than one-fourth of the value of the things which
are the object thereof;
(2) Those agreed upon in representation of absentees, if the latter suffer the
lesion stated in the preceding number;
(3) Those undertaken in fraud of creditors when the latter cannot in any other
manner collect the claims due them;
(4) Those which refer to things under litigation if they have been entered into by
the defendant without the knowledge and approval of the litigants or of
competent judicial authority;
(5) All other contracts specially declared by law to be subject to rescission.
(1291a)
WARDS AND ABSENTEES
Contracts entered into on behalf of the ward or in representation
of the absentee– lesion must be more than ¼ of the value of the
object.

▪ An absentee is a person who disappears from his domicile, his

whereabouts being unknown.

For No. 1 and 2, the act must be merely an act of administration

without the approval of the court and not an act of ownership or
an act of administration that requires court approval. (Article 1386.
Rescission referred to in Nos. 1 and 2 of article 1381 shall not take
place with respect to contracts approved by the courts.)
WARDS AND ABSENTEES
As a rule, the powers of the guardian with respect to the property of the
ward are limited to mere acts of administration. For acts of ownership, it
must be approved by the courts.
▪ Act of ownership/ Acts of acquisition: Sale or mortgages

▪ Act of administration/ Acts of conservation: buying fertilizers for the

cultivation of the land, or buying materials for the repair of the house.

EX: A is the guardian of B (ward). A sells the property of B worth 100,000

for only 60,000 pesos.
▪ The contract of sale can be rescinded because the lesion is more than
one fourth, and B can rescind the sale by proper action in court upon
reaching the age of majority.
UNDERTAKEN IN FRAUD OF CREDITORS
Contracts undertaken in fraud of Creditors when the latter cannot
in any manner collect the claims due them. (Accion Pauliana)

a. There must be existing credit prior to the contract to be

rescinded although such is not yet due;
b. There must be alienation or transfer made subsequent to such
credit;
c. There must be fraud on the part of the debtor which may be
presumed or proved (Art.1387);
d. There must be no other remedy for the prejudiced creditor to
collect the debt.
THINGS UNDER LITIGATION
Contracts which refer to things under litigation entered into by the
defendant without the knowledge and approval of the litigants of the
court.

EX: A filed a civil case against B involving the property of B. While the
case is pending in court, B, knowing that there is a chance that he will
lose in the case, sold his property to C. Later on, A won the case then she
found out that the property was sold by B. What is the remedy of A?

Ans: File a case for the Rescission of the contract between B and C.
However, if C is a buyer in good faith, A will not be able to rescind the
contract, hence, B will be liable to A for the equivalent value of the
property plus damages.
OTHER CONTRACTS DECLARED BY LAW
All other contracts declared by law to be subject for rescission.
Such as Art. 1098 – Partition; 1189; 1526 & 1534; 1539, etc.

▪ Art. 1098 - A partition, judicial or extra-judicial, may also be

rescinded on account of lesion, when any one of the co-heirs
received things whose value is less, by at least one-fourth, than
the share to which he is entitled, considering the value of the
things at the time they were adjudicated.
▪ Art. 1189 - If it deteriorates through the fault of the debtor, the
creditor may choose between the rescission of the obligation
and its fulfillment, with indemnity for damages in either case.
PAYMENTS DURING INSOLVENCY
Article 1382. Payments made in a state of insolvency for
obligations to whose fulfillment the debtor could not be
compelled at the time they were effected, are also rescissible.

“could not compelled” – Means, the obligation is not yet due and
demandable.

NOTE: Insolvency referred to in this article is Extrajudicial insolvency.

Purpose: Payment made to creditor during insolvency prejudices
the other creditors because it favors the paid creditor over the
others.
NO OTHER LEGAL REMEDY
• Rescission is only a SUBSIDIARY remedy and not a principal
remedy.
• It can only be resorted to when all other means are proven to
be futile. Before rescission, foreclose any security or collect from
his other properties.
EX: A sold his house to B to defraud his creditors. Here, the creditors
should first, file an action for Specific Performance or Collection of
Money. If the action did not prosper, that is the time for the
creditors to resort to Rescission.
MUTUAL RESTITUTION
Article 1385. Rescission creates the obligation to return the things which
were the object of the contract, together with their fruits, and the price
with its interest; consequently, it can be carried out only when he who
demands rescission can return whatever he may be obliged to restore.

Mutual Restitution - This means bringing the parties back to their original
status (Status quo) prior to the inception of the contract. In simple terms,
it means “restoring something to its original state”.

Hence, the party seeking rescission must be able to return what he is

obliged to restore by reason of the contract.
PRESUMPTION OF FRAUD (ART. 1387)
1. Alienation by Gratuitous title – presumed fraudulent when the
debtor did not reserve sufficient property to pay all debts
contracted BEFORE the donation.
2. Alienation by Onerous title
▪ When made by a person wherein a judgment was rendered
against him.
▪ Or when a writ of attachment was issued against the person who
made the alienation. NOTE: The attachment need not refer to the
property alienated.
BADGES OF FRAUD (ORIA VS. MCMICKING)
HELD: In the consideration of whether or not certain transfers were fraudulent,
courts have laid down certain rules by which the fraudulent character of the
transaction may be determined. The following are some of the circumstances
attending sales which have been dominated by the courts badges of fraud:
1. The consideration of the conveyance is fictitious or inadequate;
2. Transfer made by a debtor after suit has begun and while it is pending
against him;
3. Sale upon credit by an insolvent debtor;
4. Evidence of large indebtedness or complete insolvency;
5. Transfer of all or nearly all of debtor’s property especially when he is
insolvent;
6. Transfer from father to son where any of the above facts are attendant;
7. Failure of the vendee to take exclusive possession of all the property;
BADGES OF FRAUD (ORIA VS. MCMICKING)
Test to determine whether the conveyance is fraudulent: Does it
prejudice the rights of the creditors?

NOTE: Fraud does not automatically allow rescission of the

contract. As in the case where the property is in the possession of
the third party in good faith.
EFFECT OF BAD AND GOOD FAITH
Neither shall rescission take place when the things which are the object
of the contract are legally in the possession of third persons who did not
act in bad faith. (Art. 1385, 2nd Par.)
• Bad faith – whoever acquires the property in bad faith shall indemnify
the latter for damages suffered by them on account of the alienation.
• Good faith – His possession or right over the property shall not be
disturbed as he acquired the property in good faith.
NOTE: If there are two or more alienations, the first acquirer shall be
liable. If the first acquirer is in good faith, the next acquirer shall not be
held liable whether he is in good or bad faith.
PRESCRIPTION (ART. 1389)
GR: 4 years from the date of contract was entered into.
EXC:
▪ Persons under guardianship – 4 years from termination of incapacity
▪ Absentees – 4 years from the time the domicile was known.

Who can bring the Action?

1. The injured party
2. His or her successor-in-interest
3. Creditors
VOIDABLE CONTRACTS
RESCISSION VS. ANNULMENT
RESCISSION
The defect is extrinsic
The action is a Subsidiary
remedy
Plaintiff may be a party or a third
person
There must be pecuniary
damage
If the plaintiff is indemnified,
rescission cannot prosper
ANNULMENT
The defect is intrinsic (meeting
of the minds of the parties)
The action is principal.
Plaintiff must be a party to the
contract
Damage is immaterial
Indemnity is no bar for the
prosecution of the action.
VOIDABLE CONTRACTS
Article 1390. The following contracts are voidable or annullable, even
though there may have been no damage to the contracting parties:

1. Those where one of the parties is incapable of giving consent to a

contract;
▪ Minor
▪ Insane
▪ Deaf-mutes
▪ In the state of drunkenness
▪ In the state of hypnotic spell

2. Those where the consent is vitiated by mistake, violence, intimidation,

undue influence or fraud.
PRESCRIPTION (ART. 1391)
• In case of Violence, Intimidation, or Undue Influence, 4
years from the time the defect of the consent ceases
• In case of Mistake or Fraud, 4 years from the time of
discovery of the same
• In case of incapacitated persons, 4 years from the time
guardianship ceases.
RATIFICATION OR CONFIRMATION
It is when one voluntarily adopts some defective or unauthorized act or
contract which, without his subsequent approval or consent, would not be
binding on him.
▪ Art. 1392. Ratification extinguishes the action to annul a voidable
contract.
▪ Article 1395. Ratification does not require the conformity of the
contracting party who has no right to bring the action for annulment.
(The guilty party)
▪ Article 1396. Ratification cleanses the contract from all its defects from
the moment it was constituted.

Hence, the contract becomes a completely valid one since the contract is
cleansed of its defect from the beginning.
REQUISITES OF RATIFICATION
(a) The contract must be a voidable one.

(b) The person ratifying must know the reason for the contract
being voidable (that is, the cause must be known).

(c) The cause must not exist or continue to exist anymore at the
time of ratification.

(d) The ratification must have been made expressly or tacitly (by
an act implying a waiver of the action to annul.) (Art. 1393)

(e) The person ratifying must be the injured party.

RATIFICATION OR CONFIRMATION
Question: What if the person entitled to ratify is still incapacitated,
who may ratify the contract?

Answer: The guardian. (Art. 1394) This refers to contracts entered

into by the incapacitated person.

▪ As compared to a contract entered into by a guardian wherein

there exists a lesion, the contract is rescissible.
WHO MAY ASK FOR ANNULMENT
The victim may ask for annulment and not the guilty party.

Reason: He who comes to equity must come with clean hands.

(Bastida vs. Dy Buncio and Co)

Question: Can the creditors of those incapacitated persons file an

action for annulment if they were prejudiced by the contract?

Answer: No, however, they may file an action for rescission of the
contract if all the requisite of a rescissible contract is present.
MUTUAL RESTITUTION
Article 1398. An obligation having been annulled, the contracting parties shall
restore to each other the things which have been the subject matter of the
contract, with their fruits, and the price with its interest, except in cases provided
by law.

In obligations to render service, the value thereof shall be the basis for
damages.

NOTE: Mutual Restitution applies for those contracts that has already been
performed.
MUTUAL RESTITUTION
G.R. Mutual restitution after annulment (1385)
EXC. Incapacitated person can only restitute to the extent that he
was benefited. The other party, however, must return what he has
received whether or not he was benefited.

NOTE: Enrichment is not presumed. Thus, the person capacitated

has the burden to prove the enrichment.
IN CASE OF LOSS OF THE THING TO RETURN
Question: What if the thing to be returned was lost?

Article 1400. Whenever the person obliged by the decree of

annulment to return the thing cannot do so because it has been
lost through his fault, he shall return the fruits received and the
value of the thing at the time of the loss, with interest from the
same date.
IN CASE OF LOSS OF THE THING TO RETURN
EX: A forced B to sell him (A) the house of B. B brought an action to
annul the contract. The contract was annulled on the ground of
fraud. A was asked by the court to return to B whatever he (A) has
received. But the house had been destroyed through the fault of
A. What should A now give?

ANS.: A should give all of the following:

(a) the fruits or rentals of the house received from the time the
house was given to him to the time of its loss;
(b) the value of the house at the time of the loss;
(c) interest at 6% per annum on the value of the house from the
time the house was destroyed.
EFFECT OF LOSS
Effect of Loss:

1. Through the fraud or fault of the victim or plaintiff – the action is

extinguished
EXC: If the action is based upon incapacity of any one of the
parties, the action will still prosper since in there is no mutual
restitution in case of contracts with incapacitated persons.

2. Through the fraud or fault of the guilty party – the action shall
prosper and the guilty party is obliged to return the fruits, value of
the thing to return plus interest
EFFECT OF LOSS
Article 1402. As long as one of the contracting parties does not
restore what in virtue of the decree of annulment he is bound to
return, the other cannot be compelled to comply with what is
incumbent upon him. (1308)

EX: A forced B to take A's car in exchange for B's ring. B asked for
annulment, and the court gave the decree of annulment ordering
each to return what had been received. B refused to give A the
car. May A be compelled to give back the ring? No.
UNENFORCEABLE
CONTRACTS
UNENFORCEABLE CONTRACTS
These are contracts that CANNOT BE SUED upon or ENFORCED,
unless ratified. Meaning, the contract has no effect now but it may
be effective upon ratification.

Kinds of Unenforceable Contracts:

1. Unauthorized Contracts or in excess of authority
2. Those that fail to comply with the Statute of Frauds
3. Those where BOTH parties are incapable of giving consent to a
contract.
UNAUTHORIZED CONTRACTS
Unauthorized Contracts - Those entered into in the name of
another person by one who has been given no authority or legal
representation, or who has acted beyond his powers; [Art. 1403(1)]

EX: Without the authority of A, the owner of a car, B sold such car
to C. Here, the contract is still valid however such contract would
not affect A unless he ratifies the contract expressly or tacitly as
when A received the proceeds of the said sale. If, however, A
does not ratify the contract, B will be held liable to C.
STATUTE OF FRAUDS [ART. 1403(2)]
▪ To prevent fraud, and not to encourage the same. Thus,
certain agreements are required to be in writingSO that
they may be enforced. (Shoemaker v. La Tande 68 Phil.
24)

▪ Since memory is many times unreliable, oral agreements

may sometimes result in injustice. To aid human
memory, to prevent the commission of injustices due to
faulty memory, to discourage intentional
misrepresentations, are the principal aims of the Statute
of Frauds. (Facturan v. Sabanal, 81 Phil. 512)
STATUTE OF FRAUDS [ART. 1403(2)]
In the following cases an agreement thereafter made shall be
unenforceable by action, unless the same, or some note or
memorandum, thereof, be in writing, and subscribed by the party
charged, or by his agent; evidence, therefore, of the agreement
cannot be received without the writing, or a secondary evidence
of its contents:
(a) An agreement that by its terms is not to be performed within a
year from the making thereof;
(b) A special promise to answer for the debt, default, or
miscarriage of another;
(c) An agreement made in consideration of marriage, other than a
mutual promise to marry;
STATUTE OF FRAUDS [ART. 1403(2)]
d) An agreement for the sale of goods, chattels or things in action, at
a price not less than five hundred pesos, unless the buyer accept
and receive part of such goods and chattels, or the evidences, or
some of them, of such things in action or pay at the time some
part of the purchase money; but when a sale is made by auction
and entry is made by the auctioneer in his sales book, at the time
of the sale , of the amount and kind of property sold, terms of sale,
price, names of the purchasers and person on whose account the
sale is made, it is a sufficient memorandum;
e) An agreement for the leasing for a longer period than one year,
or for the sale of real property or of an interest therein;
f) A representation as to the credit of a third person.
BASIC AND FUNDAMENTAL PRINCIPLES
1. The Statute of Fraud applies only to Executory Contracts.
▪ Executory Contracts - contracts where no performance has yet
been made and not partially or completely executed.
▪ If there has been partial or complete performance by one
party, then the contract may be enforced in court. Meaning, it
is no longer necessary that the contract be written for the
contract to be enforced in court.
2. The Statute of Fraud applies only if the action is for damages
because of violation of the agreement or specific
performance.
3. The enumeration under Art. 1403, Par. 2 is exclusive.
4. The defense of the Statute of Fraud may be waived.
BASIC AND FUNDAMENTAL PRINCIPLES
5. The Statute of Fraud is a personal defense, hence it cannot be
assailed by a third person. (Art. 1408) This applies to all
unenforceable contracts, thus, only a party to the contract
may attack the enforceability of an unenforceable contract.
6. Contracts infringing Statute of Fraud is not void but merely
unenforceable.
7. In case of contracts that does not state the real agreement, if
the real agreement must be one of those enumerated in Art.
1403, Par. 2 in order for Statute of Fraud to apply. Otherwise,
oral evidence may prove the contract.
ONE YEAR – ART. 1403, PAR. 2(A)
An agreement that by its terms is not to be performed within a year (or to be
performed after a year) from the making thereof.

EX: A and B, neighbors, orally agreed that A would sell and B would buy A's
transistor radio for P200 three years from the date of the agreement. At the end
of three years, A refused to hand over the radio although B was willing to pay. Is
the agreement enforceable under the Statute of Frauds?

EX: A and B, neighbors, orally agreed that from that day, B would not erect a
garage on his property till after three years. A week later, B began to erect the
garage in violation of the agreement. A complained and B sets up the Statute
of Frauds. Decide.
ONE YEAR – ART. 1403, PAR. 2(A)
EX: A made an oral agreement with B wherein A required B to
improve his 1 hectare land and plant thereon. In return, A will give
a portion of the land to B upon his death. B was able to improve
half of the land but not the whole 1 hectare. After 5 years, A died.
Will B be able to get a portion of the property?

Ans: NO, because B was only able to partially comply with the
performance of the contract within a year. In order that partial
performance of the contract may take the case out of the
operation of the Statute, it must appear clearly that full
performance had been made by one party within one year.
(Shoemaker v. La Tondena)
SPECIAL PROMISE TO ANSWER
A special promise to answer for the debt, default, or
miscarriage of another;

▪ "Special promise" refers to a subsidiary or collateral

promise to pay, like a contract of guaranty.
EX: A borrowed money from B, with C as guarantor. The
contract of guaranty between B, the creditor, and C, the
guarantor, must be in writing to be enforceable.
EX: A was having his house repaired by B, who needed
certain materials. So A told storeowner (of materials), “Give B
the materials. I shall be responsible. I shall stand good."
IN CONSIDERATION OF MARRIAGE
An agreement made in consideration of marriage, other than a
mutual promise to marry;

EX: Marriage Settlements; donations made to each other before

the marriage, etc..

Note that the law says "other than a mutual promise to marry."
Hence, an oral mutual promise to marry is not embraced by the
Statute of Frauds. The injured party may present oral evidence of
the promise in an action to obtain actual damages for breach
thereof. (Cabague v. Auxilio, 92 Phil. 294)
SALE OF GOODS, CHATTELS, THINGS IN
ACTION
GR: An agreement for the sale of goods, chattels or things in
action, at a price not less than five hundred pesos.
EXC: The buyer accept and receive part of such goods and
chattels, or the evidences, or some of them, of such things in
action or pay at the time some part of the purchase money.
(Meaning, partial payment takes the contract away from the
Statute of Frauds.)

NOTE: If the price of the goods, chattels, or things in action is 500

and up then the sale must be made in writing to be enforceable in
court.
AUCTION SALE
When a sale is made by auction, and entry is made by
the auctioneer in his sales book at the time of the sale of:
1) the amount and kind of property sold;
2) the terms of the sale;
3) the price;
4) the names of the purchasers and persons on whose
account the sale is made.
The above entry is considered a SUFFICIENT memorandum
(even if the same is not signed by the party sought to be
charged)."
LEASING/ SALE OF REAL PROPERTY
An agreement for the leasing for a longer period than one
year, or for the sale of real property or of an interest therein.

NOTE: Here, the period must exceed 1 year. If the contract

states a term of 1 year then the contract is still enforceable.

“Interest therein” - easement or use of the real property.

LEASING/ SALE OF REAL PROPERTY
EX: A verbal agreement was made between A and B
whereby A agreed to sell and B agreed to buy A's farm for
Pl00,000.The price was paid. Possession was not given nor was
the deed delivered, both being refused. B comes to you and
wants to know if he can compel A to give him the deed and
possession. May B compel A to give him the deed? What
would you advise to B?

NOTE: Art. 1357 & Art. 1406. If the contract is both valid and
enforceable, a party may compel the other to execute the
necessary document.
REPRESENTATION OF CREDIT
A representation as to the credit of a third person.

EX: A was borrowing money from B, and gave C as his reference. When C was
asked regarding A's credit C said: "You can safely lend money to A because A is
the owner of a parcel of land and I have the title deeds in my possession." This
was made orally. Incidentally, A was C's client, C being a lawyer. If A later did
not pay B, may B file a case against C?

NOTE: This must not be confused with a guaranty. Here no promise to answer for
another's debt is made; there is merely an assurance that somebody has a
certain amount of credit, made with the intention of enabling the person in
whose favor it is made to obtain credit by virtue of such assurance or
representation.
RATIFICATION - STATUTE OF FRAUD
Two ways of ratification of contracts infringing the Statute
of Fraud:
1. Failure to object to the presentation of oral evidence
2. Acceptance of benefits under them thus, the statute
does not apply to executed or partially performed
contracts.
BOTH INCAPACITATED – ART. 1403(3)
▪ In a contract where both of the parties are incapacitated to give
consent, their parents or guardian may give express or implied
ratification of the contract.
▪ If only one of them are ratified, it shall be considered as if one of the
party is incapacitated to give consent, hence the contract becomes
voidable.

EX: A and B, both 15 years old, entered into a contract. The contract is
unenforceable because both parties cannot give consent. Now if the
guardian or parent of A ratifies expressly or impliedly the contract, it
becomes voidable, valid unless annulled by the guardian or parent of B.
However, if the guardian or parent of B also ratifies, the contract is
validated right from the time it was first entered into.