Spouses Almeda vs. Court of Appeals

An escalation clause does not authorize a bank to unilaterally increase interest rates; any increase must be expressly agreed to in writing by the borrower and must be within the limits allowed by law, and P.D. 385 mandatory foreclosure cannot be invoked while the exact amount of the debt remains unsettled.

The spouses Almeda were borrowers of the Philippine National Bank under several loan/credit accommodations secured by a real estate mortgage over Marvin Plaza. Their credit agreement contained an escalation clause allowing interest adjustments within the limits allowed by law and upon agreement. P.D. 385 required government financial institutions to foreclose collaterals for loans with arrearages and restricted injunctions against such foreclosure, while C.B. Circular No. 905, Series of 1982 had lifted the Usury Law ceiling on interest rates. PNB also invoked Act 3135, as amended, for extrajudicial foreclosure.

On various dates in 1981, the Philippine National Bank granted to the spouses Ponciano L. Almeda and Eufemia P. Almeda several loan/credit accommodations totaling P18.0 million, payable in a period of six years at an interest rate of 21% per annum. To secure the loan, the spouses executed a Real Estate Mortgage Contract covering a 3,500 square meter parcel of land, together with the building erected thereon, known as Marvin Plaza, located at Pasong Tamo, Makati, Metro Manila. A credit agreement embodied the terms and conditions of the loan. Its special conditions provided that the loan would be subject to interest at 21% per annum, payable semi-annually in arrears, with the first interest payment due six months from the date of initial release, and that it would also be subject to the appropriate service charge and a penalty charge of 3% per annum on any amount remaining unpaid or not rendered when due. Section III-c(1) of the credit agreement stated that the Bank reserved the right to increase the interest rate within the limits allowed by law at any time depending on whatever policy it may adopt in the future, provided that the interest rate would be correspondingly decreased if the applicable maximum interest rate was reduced by law or by the Monetary Board, and that the adjustment in the interest rate agreed upon would take effect on the effectivity date of the increase or decrease of the maximum interest rate.

Between 1981 and 1984, petitioners made several partial payments on the loan totaling P7,735,004.66, a substantial portion of which was applied to accrued interest. On March 31, 1984, respondent bank, over petitioners' protestations, raised the interest rate to 28%, allegedly pursuant to Section III-c(1) of its credit agreement. The interest rate thereupon increased from an initial 21% to a high of 68% between March 1984 and September 1986. Petitioners protested the increase in interest rates, to no avail. Before the loan was to mature in March 1988, the spouses filed on February 6, 1988 a petition for declaratory relief with prayer for a writ of preliminary injunction and temporary restraining order with the Regional Trial Court of Makati, docketed as Civil Case No. 18872. In said petition, the spouses sought clarification as to whether PNB could unilaterally raise interest rates on the loan, pursuant to the credit agreement's escalation clause, and in relation to Central Bank Circular No. 905. By this time the spouses were already in default of their loan obligations.

As a preliminary measure, the lower court, on March 3, 1988, issued a writ of preliminary injunction enjoining PNB from enforcing an interest rate above the 21% stipulated in the credit agreement. Invoking the Law on Mandatory Foreclosure, Act 3135, as amended, and P.D. 385, PNB countered by ordering the extrajudicial foreclosure of petitioners' mortgaged properties and scheduled an auction sale for March 14, 1989. Upon motion by petitioners, however, the lower court, on April 5, 1989, granted a supplemental writ of preliminary injunction, staying the public auction of the mortgaged property. On January 15, 1990, upon the posting of a counterbond by PNB, the trial court dissolved the supplemental writ of preliminary injunction. In the interim, respondent bank once more set a new date for the foreclosure sale of Marvin Plaza, which was March 12, 1990.

Prior to the scheduled date, petitioners tendered to respondent bank the amount of P40,142,518.00, consisting of the principal of P18,000,000.00 and accrued interest calculated at the originally stipulated rate of 21%. PNB refused to accept the payment. As a result of PNB's refusal of the tender of payment, petitioners, on March 8, 1990, formally consigned the amount of P40,142,518.00 with the Regional Trial Court in Civil Case No. 90-663. PNB claimed that as of March 12, 1990, the spouses' balance was P58,377,487.31, using the increased interest rates for computing accrued interest. The Supreme Court found it plainly obvious from the undisputed facts that respondent bank unilaterally altered the terms of its contract with petitioners by increasing the interest rates on the loan without the prior assent of the latter. Petitioners never agreed in writing to pay the increased interest rates demanded by respondent bank, and between 1981 and 1984 they had paid an amount equivalent to virtually half of the entire principal, P7,735,004.66, which was applied to interest alone.

• Escalation Clause: Respondent bank argued that the increases in the interest rates were not illegal, unilateral, excessive, or arbitrary because the escalated rates of interest it imposed were based on the agreement of the parties.
• Right to Foreclose: Respondent bank contended that it had a right to foreclose the mortgaged property pursuant to P.D. 385 after petitioners were unable to pay their loan obligations to the bank based on the increased rates upon maturity in 1984.
• Reliance on C.B. Circular No. 905: Respondent bank relied on C.B. Circular No. 905, Series of 1982, to justify the escalation of interest rates.

• Interest Rate Increase: Whether respondent bank was authorized to raise its interest rates from 21% to as high as 68% under the credit agreement.
• Foreclosure under P.D. 385: Whether respondent bank was authorized to foreclose Marvin Plaza under the mandatory foreclosure provisions of P.D. 385.

• Interest Rate Increase: No. The bank was not authorized to raise interest rates unilaterally; the escalation clause required agreement and limits allowed by law, and the increases violated the mutuality of contracts and Article 1956 of the Civil Code.
• Foreclosure under P.D. 385: No. P.D. 385 could not be invoked until the exact amount of petitioners' obligations was determined after settlement of the interest-rate dispute; the unsettled amount and petitioners' valid consignation precluded foreclosure.

• Interest Rate Increase: The binding effect of any agreement between parties to a contract is premised on two settled principles: that any obligation arising from contract has the force of law between the parties, and that there must be mutuality between the parties based on their essential equality. Any contract which appears to be heavily weighed in favor of one of the parties so as to lead to an unconscionable result is void, and any stipulation regarding the validity or compliance of the contract which is left solely to the will of one of the parties is likewise invalid. PNB unilaterally altered the terms of its contract with petitioners by increasing the interest rates on the loan without the prior assent of the latter. Article 1956 of the Civil Code provides that no interest shall be due unless it has been expressly stipulated in writing. What was stipulated in writing in the credit agreement was that petitioners were bound merely to pay 21% interest, subject to a possible escalation or de-escalation when the circumstances warrant such escalation or de-escalation, within the limits allowed by law, and upon agreement. The phrase "interest rate agreed upon" in the credit agreement referred to the original 21% interest rate. In Philippine National Bank vs. Court of Appeals, the Court disauthorized PNB from unilaterally raising the interest rate in the borrower's loan from 18% to 32%, 41%, and 48%, partly because the increases violated the principle of mutuality of contracts expressed in Article 1308 of the Civil Code. C.B. Circular No. 905, Series of 1982, removed the Usury Law ceiling on interest rates but did not authorize PNB, or any bank, to unilaterally and successively increase the agreed interest rates from 18% to 48% within a span of four months, in violation of P.D. 116, which limits such changes to once every twelve months. The galloping increases in interest rate imposed by respondent bank on petitioners' loan, over the latter's vehement protests, were arbitrary. The escalation clause of the credit agreement required that the increase be made "within the limits allowed by law," referring specifically to legislative enactments and not administrative circulars. Banco Filipino Savings and Mortgage Bank vs. Navarro distinguished a law from an administrative regulation, holding that an escalation clause dependent on an increase of rate made by "law" alone cannot be triggered by a Central Bank circular. P.D. No. 1684, adding Section 7-a to the Usury Law, required escalation clauses to provide for an increase in interest if increased by law or by the Monetary Board and to include a provision for reduction of the stipulated interest if the applicable maximum rate is reduced by law or by the Monetary Board. Petitioners never agreed in writing to pay the increased interest rates demanded by respondent bank. Between 1981 and 1984, petitioners had paid P7,735,004.66, which was applied to interest alone; by the time the spouses tendered P40,142,518.00, respondent bank was demanding P58,377,487.00 over and above those amounts already previously paid. Escalation clauses are not basically wrong or legally objectionable so long as they are not solely potestative but based on reasonable and valid grounds. Here, the increases were patently unreasonable and unconscionable, and there were no valid and reasonable standards upon which the increases were anchored. The unilateral and progressive increases imposed by respondent PNB were therefore null and void.

• Foreclosure under P.D. 385: P.D. 385 was issued principally to guarantee that government financial institutions would not be denied substantial cash inflows necessary to finance the government's development projects by large borrowers who resort to litigation to prevent or delay the government's collection of their debts or loans. In facilitating collection of debts through its automatic foreclosure provisions, the government is not exempted from observing basic principles of law, ordinary fairness, and decency under the due process clause of the Constitution. Because of the dispute regarding the interest rate increases, an issue which was never settled on the merits in the courts below, the exact amount of petitioners' obligations could not be determined. Thus, the foreclosure provisions of P.D. 385 could be validly invoked by respondent bank only after settlement of the question involving the interest rate on the loan, and only after the spouses refused to meet their obligations following such determination. In Filipinas Marble Corporation vs. Intermediate Appellate Court, involving P.D. 385's provisions on mandatory foreclosure, the Court held that pending the outcome of litigation, P.D. 385 cannot automatically be applied, for if it is proven that the bank is responsible for the misappropriation of the loan, even if only in part, then the foreclosure of the petitioner's properties under P.D. 385 to satisfy the whole amount of the loan would be a gross mistake. Only after trial on the merits of the main case can the true amount of the loan be determined. In Republic Planters Bank vs. Court of Appeals, the Court reiterated the dictum in Filipinas Marble Corporation and held that the trial court should be allowed to proceed with dispatch to allow the parties to present their evidence. Furthermore, petitioners made a valid consignation of what they, in good faith and in compliance with the letter of the Credit Agreement, honestly believed to be the real amount of their remaining obligations with respondent bank. Respondent bank could not therefore claim that there was no honest-to-goodness attempt on the part of the spouses to settle their obligations. Respondent bank's rush to inequitably invoke the foreclosure provisions of P.D. 385 through its legal machinations in the courts below, in spite of the unsettled differences in interpretation of the credit agreement, was obviously made in bad faith to gain the upper hand over petitioners.

• Mutuality of Contracts — Under Article 1308 of the Civil Code, a contract must bind both contracting parties; its validity or compliance cannot be left to the will of one of them. The Court applied this doctrine to hold that PNB could not unilaterally increase interest rates under the escalation clause, because such unilateral action altered the contract without the borrowers' assent.
• No Interest Without Written Stipulation — Article 1956 of the Civil Code provides that no interest shall be due unless it has been expressly stipulated in writing. The Court found that petitioners never agreed in writing to the increased rates, so they were not bound to pay interest beyond the originally stipulated 21%.
• Escalation Clauses — Escalation clauses are not inherently invalid; they are valid so long as they are not solely potestative but based on reasonable and valid grounds. They must also comply with the requirement that any increase be within the limits allowed by law and upon agreement. The Court invalidated PNB's increases because they were unilateral, excessive, unconscionable, and lacked valid standards.
• "Law" versus Administrative Circular — An escalation clause allowing an increase "within the limits allowed by law" refers to legislative enactments, not administrative circulars. C.B. Circular No. 905, which lifted the Usury Law ceiling, did not authorize PNB to raise interest rates at will. The Court relied on Banco Filipino vs. Navarro and P.D. No. 1684, Section 7-a of the Usury Law.
• P.D. 385 Mandatory Foreclosure — P.D. 385 requires government financial institutions to foreclose collaterals for arrearages, but it cannot be invoked while the exact amount of the debt remains unsettled. The government financial institution is not exempt from due process, fairness, and basic legal principles. The Court held that foreclosure could proceed only after the interest-rate dispute was resolved and the true obligation determined.
• Valid Consignation — A tender and consignation made in good faith of the amount the debtor honestly believes to be due, in accordance with the credit agreement, constitutes an honest attempt to settle and precludes the creditor from claiming that no attempt was made. The Court found petitioners' consignation of P40,142,518.00 valid.
• Contracts of Adhesion / Unconscionable Contracts — A contract containing a condition making its fulfillment dependent exclusively on the uncontrolled will of one party is void; it may also be a contract of adhesion where the weaker party's participation is reduced to "take it or leave it." The Court cited this in the context of PNB's unilateral interest increases.

• "The binding effect of any agreement between parties to a contract is premised on two settled principles:(1) that any obligation arising from contract has the force of law between the parties; and (2) that there must be mutuality between the parties based on their essential equality. Any contract which appears to be heavily weighed in favor of one of the parties so as to lead to an unconscionable result is void. Any stipulation regarding the validity or compliance of the contract which is left solely to the will of one of the parties, is likewise, invalid." — This states the contract-law foundation for invalidating PNB's unilateral interest increases.
• "It is plainly obvious, therefore, from the undisputed facts of the case that respondent bank unilaterally altered the terms of its contract with petitioners by increasing the interest rates on the loan without the prior assent of the latter." — This is the Court's core factual finding on the interest-rate issue.
• "Escalation clauses are not basically wrong or legally objectionable so long as they are not solely potestative but based on reasonable and valid grounds." — This defines the standard for valid escalation clauses and explains why PNB's increases failed.
• "Thus, the foreclosure provisions of P.D. 385 could be validly invoked by respondent bank only after settlement of the question involving the interest rate on the loan, and only after the spouses refused to meet their obligations following such determination." — This is the ratio on why foreclosure under P.D. 385 was premature.

• Philippine National Bank vs. Court of Appeals, 196 SCRA 536 (1991) — Controlling precedent; disauthorized PNB from unilaterally raising interest rates from 18% to 32%, 41%, and 48%, holding that such increases violated the mutuality of contracts under Article 1308 and P.D. 116, and that C.B. Circular No. 905 did not authorize unilateral successive increases.
• Banco Filipino Savings and Mortgage Bank vs. Navarro, 152 SCRA 346 (1987) — Distinguished a law from an administrative regulation; an escalation clause dependent on an increase by "law" alone cannot be triggered by a Central Bank circular, which has the force of law but is not a law.
• Filipinas Marble Corporation vs. Intermediate Appellate Court, 142 SCRA 181 (1986) — Held that P.D. 385 cannot automatically apply pending litigation on the true amount of the loan; foreclosure for the whole amount would be a gross mistake if the bank was responsible for misappropriation.
• Republic Planters Bank vs. Court of Appeals, 213 SCRA 413 (1992) — Reiterated Filipinas Marble and held that the trial court should proceed to allow the parties to present evidence rather than enforce P.D. 385 prematurely.
• Garcia vs. Rita Legarda, Inc., 21 SCRA 555 (1967) — Cited for the rule that a contract containing a condition making its fulfillment dependent exclusively upon the uncontrolled will of one contracting party is void.
• Qua vs. Law Union & Rock Insurance Co., 95 Phil. 85 — Cited for the contract of adhesion principle, where the weaker party's participation is reduced to "take it or leave it."

• Article 1308, Civil Code — The contract must bind both contracting parties; its validity or compliance cannot be left to the will of one of them. Applied to void PNB's unilateral interest increases.
• Article 1956, Civil Code — No interest shall be due unless it has been expressly stipulated in writing. Applied because petitioners never agreed in writing to the increased rates.
• Section III-c(1), Credit Agreement — The escalation clause allowed PNB to increase interest within limits allowed by law and upon agreement. The Court construed it to require written agreement and a legal basis, not unilateral action.
• Presidential Decree No. 385, Sections 1 and 2 — Mandatory foreclosure by government financial institutions and restriction on injunctions. Applied: foreclosure could not be invoked until the exact amount of the debt was determined; due process and fairness still applied.
• Central Bank Circular No. 905, Series of 1982 — Removed the Usury Law ceiling on interest rates. Held not to authorize PNB to unilaterally and progressively increase interest rates.
• Presidential Decree No. 1684, Section 7-a of the Usury Law — Required escalation clauses to provide for increase by law or Monetary Board and a corresponding reduction by law or Monetary Board. Applied to show the requirements for a valid escalation clause.
• Act 3135, as amended — Governs extrajudicial foreclosure; PNB invoked it in ordering foreclosure. The Court did not allow foreclosure to proceed because the debt amount was unsettled.
• Presidential Decree No. 116 — Cited in Philippine National Bank vs. Court of Appeals as limiting interest-rate changes to once every twelve months. The Court quoted this in discussing the invalidity of PNB's successive increases.

Bellosillo and Hermosisima, Jr., JJ., concurred. Padilla, J., took no part, having handled several cases adverse to petitioners while in law practice. Vitug, J., took no part because one of the parties used to be a client.