Credit Transactions

Lecture for the Senior Class of 2022

Accountancy Department of the Ateneo de Zamboanga University
Outline of the lecture
• Overview of the credit transactions
• Personal Property Securities Act (Republic Act No. 11057)
• In relation with Civil Code provisions on Pledge and Chattel Mortgage
• Real Estate Mortgage Law
• Guaranty
• Suretyship
• Letters of Credit

K.J. Culajara, CPA, JD 2

Overview of the credit transactions
• Credit transaction means any transaction by the terms of which the
repayment of money loaned or loan commitment made, or payment
for goods, services, or properties sold or leased, is to be made at a
future date or dates. (www.lawinsider.com)
• Loan contracts may be simple or secured. A simple loan contract is one
which does not have any underlying security or collateral. On the other
hand, a secured loan is one where it is secured either by a personal
commitment of another person to pay the loan (i.e. guaranty or
suretyship), or by an encumbrance of property (i.e. real estate
mortgage, pledge, chattel mortgage, or security interest under the
Personal Property Securities Act.)
K.J. Culajara, CPA, JD 3
Pledge
Definition of pledge
• It is a contract wherein the debtor delivers to the creditor or to a third person a
movable or document evidencing incorporeal rights for the purpose of securing
fulfillment of a principal obligation with the understanding that when the
obligation is fulfilled, the thing delivered shall be returned with all its fruits and
accessions.
• Pledge is an accessory, real and unilateral contract. It is also indivisible. It is also a
real contract which is not perfected until the delivery of the object of the contract.
• After maturity of the debt and upon default of the debtor to pay his debt, the
thing pledged may be sold to fulfill the obligation.
• The thing pledged cannot be pledged to another unless the parties expressly
provide such right upon failure of the debtor to fulfill certain conditions in the
contract.
K.J. Culajara, CPA, JD 5
Essential requisites of pledge
• That it is constituted to secure the fulfillment of a principal obligation
• That the pledgor be the absolute owner of the thing pledged
• That the pledgor has free disposal of the thing pledged
• That the thing pledged is a movable or personal property
• That the thing pledged be placed in the possession of the creditor

Note: Republic Act No. 11057 (otherwise known as the Personal Property
Security Act), which was signed into law on August 17, 2018, repealed,
amended, or modified the provisions of the Chattel Mortgage Law and the
provisions on pledge and chattel mortgage under the New Civil Code.
K.J. Culajara, CPA, JD 6
Other matters
• If the pledgor is not the owner of the thing pledged, the pledge is
void.
• The contract of pledge is binding in whatever form it may have been
entered into. However, if the value of the thing pledged exceeds Five
Hundred Pesos (PHP 500), the contract must appear in writing.
• While the pledgee possesses the thing pledged as a security, the
pledgor does not relinquish his ownership over the property. The
pledgor remains to be owner, even if possession is with the pledgee.
• Pledge is a real contract.

K.J. Culajara, CPA, JD 7

Elements of pactum commissorium
• There should be a property mortgaged or pledged by way of security
for the payment of the principal obligation;
• There is a stipulation for automatic appropriation which enables the
mortgagee or pledgee to acquire ownership of the mortgaged or
pledged property;
• Such stipulation dispenses foreclosure proceedings.

Note: pactum commissorium is a void stipulation. Except for pledge,

when the thing is not sold at two (2) public auctions, the pledgee may
appropriate it upon delivery of an acquittance for his entire claim.
K.J. Culajara, CPA, JD 8
Indivisibility of pledge and mortgage
• The debtor’s heir who has paid a part of the debt cannot ask for the
proportionate extinguishment of the pledge or mortgage as long as
the debt is not completely satisfied.
• The creditor’s heir who received his share of the debt cannot return
the pledge or cancel the mortgage, to the prejudice of the other heirs
who have not been paid.
• Exception: When there are several things given in pledge or mortgage and
each one of them guarantees only a determinate portion of the credit.

K.J. Culajara, CPA, JD 9

Kinds of pledge
• Conventional
• Legal

K.J. Culajara, CPA, JD 10

Rights of the pledgor
• To demand return in case of reasonable grounds to fear destruction
or impairment of the thing
• To bid and be preferred at the public auction
• To alienate the thing pledged provided the pledgee consents to the
sale
• To continue to be the owner of the thing pledged unless it is
expropriated
• To ask that the thing pledged be deposited under meritorious cases

K.J. Culajara, CPA, JD 11

Obligations of the pledgor
• To advise the pledgee of the flaws of the thing
• To pay the debt and its interests, with expenses in proper cases
• Not to demand the return of the thing until after the full payment of
the debt except if the thing pledged is in danger of destruction or
impairment (in which case, the pledgor may substitute the thing
pledged)

K.J. Culajara, CPA, JD 12

Rights of the creditor-pledgee
• Option to demand replacement or immediate payment of the debt in case
of deception as to substance or quality;
• To sell at public auction in case of reasonable grounds to fear destruction or
impairment of the thing without his fault.
• To bring actions pertaining to the owner or to defend it against third
persons.
• To choose which of the several things pledged shall be sold.
• To collect and receive amount due on credit pledged.
• To bid at the public auction, unless he is the only bidder.
• To appropriate the thing in case of failure of the second public auction.
K.J. Culajara, CPA, JD 13
Rights of the creditor-pledgee
• To apply the fruits, interests, or earnings of the pledge to the interest,
if any, then to the principal of the credit.
• To retain excess value received in the public sale.
• To rettain the thing until after full payment of the debt;
• To be reimbursed for the expenses made for the preservation of the
thing pledged;
• To object to the alienation of the thing;
• To possess the thing; and
• To sell at public auction in case of non-payment of debt at maturity.
K.J. Culajara, CPA, JD 14
Obligations of the pledgee-creditor
• Take care of the thing with the diligence of a good father of a family
and be liable for the loss or deterioration of such;
• Not to use the thing unless authorized by the owner or its
preservation requires its use.
• Not to deposit the thing with a third person unless so stipulated.
• Responsibility for acts of agents and employees as regards the thing;
• To advise pledgor of danger to the thing;
• To advise pledgor of the result of the public auction;
• To return the thing upon payment of debt.
K.J. Culajara, CPA, JD 15
Other matters
• A property which has been lawfully pledged to one creditor cannot be
pledged to another as long as the first one subsists.
• A third person who has any right in or interest to the thing pledged
may pay the debt as soon as it becomes due and demandable. The
creditor cannot refuse to accept payment.

K.J. Culajara, CPA, JD 16

Extinguishment of pledge
• The same causes as all other obligations;
• The return of the thing pledged by the pledgee to the pledgor (Art. 2110, Civil
Code). Note: 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. (Art. 1274)
• Statement in writing by the pledgee that he renounces or abandons the pledge.
(Art. 2111)
• The payment of the debt;
• The sale of the thing pledged at public auction; and
• The appropriation under Art. 2112 of the Civil Code.

K.J. Culajara, CPA, JD 17

Other matters
• The principal obligation shall be extinguished whether or not the
proceeds of the sale are equal to the amount of the principal
obligation, interest and expenses in a proper case.
• Note: Hence, the debtor may not be entitled to the excess of proceeds from
the principal obligation, unless stipulated by both parties. However, the
creditor may not recover the insufficiency even if stipulated.
• Rule when two or more things are pledged: The pledgee may choose
which he will cause to be sold, unless there is a contrary stipulation.
He may demand the sale only as many of the things as are necessary
for the payment of debt.

K.J. Culajara, CPA, JD 18

Legal pledge
• It is pledge by operation of law, and refers to the right of a person to
retain a thing until he receives payment for his claim.
• Examples: possessory lien by a possessor in good faith; possessory
lien of worker; depositary’s right of retention, etc.

K.J. Culajara, CPA, JD 19

Foreclosure of pledge
• The foreclosure of a pledge occurs extrajudicially. All the creditor needs to
do is to proceed before a Notary Public for the sale of the thing pledged in
a public auction.
• The sale shall be made at public auction with notification to the debtor
and owner of the thing pledged, stating the amount for which the public is
to be held. Private sale may be allowed if expressly agreed by the parties.
• After auction, the pledgee shall promptly advise the pledgor or owner the
results thereof.
• The sale extinguishes the principal obligation regardless when proceeds
equal the amount of the obligation, interest, and expenses.

K.J. Culajara, CPA, JD 20

Foreclosure of pledge
• If the price of the sale is more than the amount of the principal obligation, the
debtor is not entitled to the excess unless otherwise agreed by the parties.
• If the price of the sale is less than the amount of the principal obligation, the
creditor is not entitled to recover even if otherwise agreed by the parties. A
stipulation allowing the creditor to recover the deficiency is void.
• If at the first auction, the thing is not sold, a second auction shall be held.
• If at the second auction, the thing is not sold, the creditor may now
appropriate the thing pledged. This, therefore, extinguishes the pledgor’s
obligation to the pledgee.
• The right of redemption does not exist over personal property.

K.J. Culajara, CPA, JD 21

Enforcement rules applicable to legal
pledge
• The thing may be sold only after demand of the amount for which the
thing is retained;
• The public auction shall take place within one month after such
demand;
• If without just grounds, the creditor does not cause the public sale to
be held within such period, the debtor may require the return of the
thing;
• After the payment of debt and expenses, the remainder of the price
of sale shall be delivered to the obligor.

K.J. Culajara, CPA, JD 22

Conventional pledge and legal pledge as
distinguished
• When the proceeds of sale exceed the amount of debt – In
conventional pledge, the excess belongs to the creditor unless there is
a stipulation to the contrary. In legal pledge, the excess shall be
delivered to the debtor.
• When the proceeds of sale is deficient to cover the amount of debt –
In conventional pledge, the creditor is not entitled to recover the
deficiency. Any agreement to the contrary is void. In legal pledge, the
creditor is entitled to recover the deficiency.

K.J. Culajara, CPA, JD 23

Chattel Mortgage
Overview
• Where a debt is secured by a mortgage and there is a default in
payment on the part of the mortgagor, the mortgagee has a choice of
one (1) of the two (2) remedies: foreclosure of the mortgage, or filing
of an ordinary civil action to collect the debt.
• The said remedies are alternative, and not cumulative.

K.J. Culajara, CPA, JD 25

Chattel Mortgage
• It is a contract by virtue of which personal property is recorded in the
Chattel Mortgage Register as a security for the performance of an
obligation.
• If the movable, instead of being recorded, is delivered to the creditor
or a third person, the contract is a pledge and not a chattel mortgage.

K.J. Culajara, CPA, JD 26

Essential requisites of a chattel mortgage
• It is a contract by virtue of which personal property is recorded in the
Chattel Mortgage Register as a security for the performance of an
obligation.
• If the movable, instead of being recorded, is delivered to the creditor
or a third person, the contract is a pledge and not a chattel mortgage.

K.J. Culajara, CPA, JD 27

Essential requisites of a chattel mortgage
• That it is constituted to secure the fulfillment of a principal obligation
• That the mortgagor be the absolute owner of the thing mortgaged
• That the mortgagor has free disposal of the thing mortgaged
• That the thing mortgaged is a movable or personal property
• That the chattel mortgage is recorded and registered in the Chattel Mortgage Registry
• That the chattel mortgage only covers obligations existing at the time the mortgage is
constituted. It cannot cover future advancements or liabilities.

Note: Republic Act No. 11057 (otherwise known as the Personal Property Security Act),
which was signed into law on August 17, 2018, repealed, amended, or modified the
provisions of the Chattel Mortgage Law and the provisions on pledge and chattel mortgage
under the New Civil Code.

K.J. Culajara, CPA, JD 28

Foreclosure of chattel mortgage
• Grounds for foreclosure: default of principal obligation, or violation of
any condition, stipulation, or warranty by the mortgagor.
• Kinds of foreclosure: judicial and extra-judicial foreclosure.

K.J. Culajara, CPA, JD 29

Extra-judicial foreclosure
• The sale must be at public auction. However, the sale may be a private one if
permitted by the agreement of the parties.
• The sheriff, notary public, or creditor or mortgagee himself (when the chattel
mortgage contract contains a stipulation to that effect, or when authorized by
law) may conduct the sale.
• The mortgagee may, after 30 days from the time of the condition broken, cause
the mortgaged property to be sold at public auction by a public officer.
• The 30-day period is the minimum period after violation of the mortgage condition for
the mortgage creditor to cause the sale at public auction, with at least 10-day notice to
the mortgagor and posting of public notice of time, place, and purpose of such sale, and
is a grace period for the mortgagor to discharge the mortgage obligation.

K.J. Culajara, CPA, JD 30

Extra-judicial foreclosure
• The mortgagee may demand the possession of the property upon the
mortgagor’s default. Where, however, the mortgagor refuses to
comply with the mortgagee’s demand, the mortgagee must institute
an action, either to effect a judicial foreclosure directly or to secure
possession as a preliminary step to the sale. He cannot take the
property by force and against the will of the mortgagor.

K.J. Culajara, CPA, JD 31

Other matters
• If the proceeds of sale are not sufficient to satisfy the claim of the
creditor, the creditor may institute a court action to recover the
deficiency, except in the case of foreclosure of a chattel mortgage
constituted on personal property which is sold at a price payable in
installments.
• There is no redemption of property in chattel mortgage.

K.J. Culajara, CPA, JD 32

Real Mortgage
Overview
• Where a debt is secured by a mortgage and there is a default in payment on
the part of the mortgagor, the mortgagee has a choice of one (1) of the two
(2) remedies: foreclosure of the mortgage, or filing of an ordinary civil action
to collect the debt.
• The said remedies are alternative, and not cumulative.  
• Note, however, that if the mortgagee chooses to foreclose the mortgage,
and the proceeds from the foreclosure are not sufficient to cover the
principal obligation, the mortgagee may claim against the mortgagor for the
deficiency.
• An action for foreclosure, including the claim for deficiency, prescribes after
ten (10) years from the time such right accrues.
K.J. Culajara, CPA, JD 34
Real mortgage
• A contract whereby the debtor secures to the creditor the fulfillment
of a principal obligation, specially subjecting to such security
immovable property for real rights over immovable property in case
the principal obligation is not complied with at the time stipulated.

K.J. Culajara, CPA, JD 35

Essential requisites of a real mortgage
• That it is constituted to secure the fulfillment of a principal obligation
• That the mortgagor be the absolute owner of the thing mortgaged
• That the mortgagor has free disposal of the thing mortgaged
• That the thing mortgaged is an immovable or real property
• That the mortgage must appear in a public instrument
• That the mortgage must be recorded in the Registry of Property.

K.J. Culajara, CPA, JD 36

Other matters concerning foreclosure
• Grounds to foreclose: default of the principal obligation; violation of
any condition, stipulation or warranty by the mortgagor.
• Kinds of foreclosure: judicial and extra-judicial foreclosure.

K.J. Culajara, CPA, JD 37

Judicial foreclosure of real estate mortgage
• Judicial action brought to the proper court having jurisdiction over the
mortgaged property.
• Order by the court for the mortgagor to pay mortgage debt if the
court finds the complaint to be well-founded, within a period of not
less than 90 days nor more than 120 days from the entry of judgment;
• Sale to the highest bidder at public auction if the mortgagor fails to
pay at the time directed in the court order.
• Confirmation of sale, which operates to divest the rights of all parties
to the action and vest their rights to the purchaser.

K.J. Culajara, CPA, JD 38

Judicial foreclosure of real mortgage
• Execution of judgment in the manner prescribed by the law on
mortgages.
• The application of proceeds of the sale shall be as follows: (a) Costs of
sale; (b) Amount due the mortgagee; (c) Claims of junior
encumbrancers or persons holding subsequent mortgages in the
order of their priority; and (d) The balance, if any, shall be paid to the
mortgagor or his duly authorized agent, or to the person entitled to it.
• Execution of sheriff’s Certificate.

K.J. Culajara, CPA, JD 39

Extra-judicial foreclosure of real mortgage
• Filing of an application before the Executive Judge through the Clerk of
Court.
• Clerk of Court will Examine whether the following requirements of the law
have been complied with
• Posting of notice not less than 20 days in at least 3 public places of the municipality or
city where the property is situated.
• The correct number of the certificate of title and the correct technical description of
the real property sold must indicated in the notice of a sheriff’s sale.
• Publication (if property is worth more than P400) once a week for at least 3
consecutive weeks in a newspaper of general circulation in the city or municipality
where the mortgage property is situated.
• The application shall be Raffled among different sheriffs.
K.J. Culajara, CPA, JD 40
Extra-judicial foreclosure of real mortgage
• An Auction sale may be had even with just one (1) participating bidder.
• Note: The plain result of adopting extrajudicial foreclosure under Act No. 3135
is that the creditor waives his right to recover any deficiency.
• The Clerk of Court shall issue a Certificate of payment indicating the
amount of indebtedness, the filing fees collected, the mortgages
sought to be foreclosed, the description of the real estates and their
respective locations;
• The certificate of sale must be Approved by the Executive Judge;
• After the redemption period has expired, the Clerk of Court shall
Archive the records.
K.J. Culajara, CPA, JD 41
Other matters regarding extra-judicial
foreclosure
• Extra-judicial foreclosure of real mortgage may only be made:
• When there is a stipulation in the mortgage contract that the
mortgagee may be foreclosed extra-judicially, or
• When such extra-judicial foreclosure sale is made under a special
power of attorney inserted in the contract.

K.J. Culajara, CPA, JD 42

Redemption
• A transaction through which the mortgagor, or the one claiming in his
right, by means of payment or the performance of the condition,
reacquires or buys back the value of the title which may have passed
under the mortgage, or divests the mortgaged premises of the lien
which the mortgage may have created.
• Equity of redemption as distinguished from right of redemption.

K.J. Culajara, CPA, JD 43

Personal Property Security
Act
Republic Act No. 11057
Overview
• Republic Act No. 11057 (otherwise known as the Personal Property
Security Act [PPSA]), which was signed into law on August 17, 2018,
repealed, amended, or modified the provisions of the Chattel
Mortgage Law and the provisions.
• The law provides for a transitional period whereby a prior interest
that was perfected under prior law continues to be perfected under
the PPSA until the earlier of
• The time the prior interest would cease to be perfected under prior law, and
• The expiration of the transitional period.

K.J. Culajara, CPA, JD 45

Overview
• The PPSA shall apply to all transactions of any form that secure an
obligation with a movable collateral, except
• Interests in aircrafts (they are covered by the Civil Aviation Authority Act of 2008)
• Interests in ships (they are covered by the Ship Mortgage Decree of 1978)
• A “security interest” means a property right in collateral that secures
payment or other performance of an obligation, regardless of whether
the parties have denominated it as a security interest, and regardless of
the type of the asset, the status of the grantor or secured creditor, or the
nature of the secured obligation; including the right of a buyer of
accounts receivable and a lessor under an operating lease for not less
than one (1) year.
K.J. Culajara, CPA, JD 46
Parties in a Security Agreement
• The parties in a Security Agreement are the grantor and the secured
creditor.
• A secured creditor is a person that has security interest. For purposes
of registration and priority, it includes a buyer of account receivable
and a lessor of goods under an operating lease for not less than one
(1) year.

K.J. Culajara, CPA, JD 47

Stages in the life of security interest
• Creation – a security interest is created under the PPSA by a security
agreement.
• Perfection – a security interest that has been created under the PPSA
becomes effective against third parties the moment it is perfected.
Perfection may arise from:
• Registration of a notice with the Registry;
• Possession of the collateral by the secured creditor; and
• Control of investment property and deposit account.
• A security interest in any tangible personal property may be perfected by registration or
possession. On the other hand, a security interest in investment property and deposit
account may be perfected by registration or control.

K.J. Culajara, CPA, JD 48

Perfection by control
• A security interest in a deposit account or investment property may
be perfected by control through:
• The creation of the security interest in favor of the deposit-taking institution
or the intermediary;
• The conclusion of a control agreement;
• For an investment property that is an electronic security not held with an
intermediary, the notation of the security interest in the books maintained by
or on behalf of the issuer for the purpose of recording the name of the holder
of securities.

K.J. Culajara, CPA, JD 49

Control agreement
• With respect to securities, means an agreement in writing among the issuer or the
intermediary, the grantor and the secured creditor, according to which the issuer or the
intermediary agrees to follow instructions from the secured creditor with respect to the
security, without further consent from the grantor.
• With respect to rights to deposit account, means an agreement in writing among the
deposit-taking institution, the grantor and the secured creditor, according to which the
deposit-taking institution agrees to follow instructions from the secured creditor with
respect to the payment of funds credited to the deposit account without further consent
from the grantor.
• With respect to commodity contracts, means an agreement in writing among the grantor,
secured creditor, and intermediary, according to which the commodity intermediary will
apply any value distributed on account of the commodity contract as directed by the
secured creditor without further consent by the commodity customer or grantor.

K.J. Culajara, CPA, JD 50

Enforcement of security interest
• The personal security may be enforced after default through sale or disposition
of the collateral publicly or privately. The sale or disposition must be done in a
commercially reasonable manner.
• The grantor and any other secured creditor (who holds security interest in the
collateral at least 5 days before the date of notification) are entitled to receive
notice 10 days before the disposition of the collateral.
• The grantor and any other secured creditor or person who are entitled to notice
may redeem the collateral, except:
• When there is a waiver
• The collateral is sold or disposed of, or acquired or collected by the secured creditor, or an
agreement for such purpose is concluded by the secured creditor, or
• The secured creditor has retained the collateral.

K.J. Culajara, CPA, JD 51

Enforcement of security interest
• The secured creditor may also propose to the debtor and grantor to take all or
part of the collateral in total or partial satisfaction of the secured obligation by
sending a proposal to the debtor and the grantor, and such other secured
creditor or lien holder or other person with interest in the collateral as specified
in Section 54(a) of the PPSA. The secured creditor may retain the collateral in the
case of
• A proposal for the acquisition of the collateral in full satisfaction of the secured obligation,
unless the secured creditor receives an objection in writing from any person entitled to
receive such a proposal within 20 days after the proposal is sent to that person; or
• A proposal for the acquisition of the collateral in partial satisfaction of the secured
obligation, only if the secured creditor receives the affirmative consent of each addressee
of the proposal in writing within 20 days after the proposal is sent to that person.

K.J. Culajara, CPA, JD 52

Enforcement of security interest
• With respect to bank deposits, the secured creditor may without
judicial process apply the balance of the deposit account to the
obligation secured by the deposit account.
• In other cases of security interest in a deposit account perfected by
control, the secured creditor has the right to instruct the deposit-
taking institution to pay the balance of the deposit account to the
secured creditor’s account.

K.J. Culajara, CPA, JD 53

Priority of security interest
• Generally, the priority of security interests and liens in the same
collateral shall be determined according to time of registration of a
notice or perfection by other means, without regard to the order of
creation of the security interests and liens.
• Except those governed by special rules (i.e. priority of perfection by control,
priority interest on other personal properties, purchase money security
interest).

K.J. Culajara, CPA, JD 54

Other matters
• Any party who obtains, in the ordinary course of business, any
movable property containing a security interest shall take the same
free of such security interest provided he was in good faith. No such
good faith shall exist if the security interest in the movable property
was registered prior to his obtaining the property.
• Subject to the applicable insolvency law, a security interest perfected
prior to the commencement of insolvency proceedings in respect of
the grantor shall remain perfected and retain the priority it had
before the commencement of the insolvency proceedings.

K.J. Culajara, CPA, JD 55