FOUR Kinds OF Defective Contracts PDF

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THERE ARE FOUR KINDS OF DEFECTIVE CONTRACTS.THEY ARE IN THE ORDER OF THEIR DEFECTIVENESSOR EFFICACIOUSNESS:INTRODUCTION(1) Rescissible contracts. — They are the least infirm or defective. They are valid because all the essential requisites of a contract exist but by reason of injury or damage to one...

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THERE ARE FOUR KINDS OF DEFECTIVE CONTRACTS. THEY ARE IN THE ORDER OF THEIR DEFECTIVENESS OR EFFICACIOUSNESS:

order to put an end to the uncertainty and other ambiguities in the old Code, the present Code in a clear-cut and unequivocal way classified and defined the various kinds of defective contracts, and stated their consequences.

INTRODUCTION (1) Rescissible contracts. — They are the least infirm or defective. They are valid because all the essential requisites of a contract exist but by reason of injury or damage to one of the parties or to third persons, such as creditors, the contract may be rescinded. Thus, the defect is external. Until such contracts are rescinded in an appropriate proceeding, they remain valid and binding upon the parties thereto (Chap. 6.); (2) Voidable contracts. — They are also valid until annulled unless there has been a ratification. In a voidable contract, the defect is caused by vice of consent (Chap. 7.); (3) Unenforceable contracts. — They cannot be sued upon or enforced unless they are ratified. As regards the degree of defectiveness, voidable contracts are further away from absolute nullity than unenforceable contracts. In other words, an unenforceable contract occupies an intermediate ground between a voidable and a void contract (Chap. 8.); and (4) Void or inexistent contracts. — They are absolutely null and void. They have no legal effect at all and cannot be ratified. (Chap. 9.) According to the Code Commission which prepared the draft of the present Civil Code, a great deal of confusion has been created by the faulty terminology used in the old Civil Code as regards defective contracts. There was no sufficient clarity as to contratos nulos and contratos anulables — void and voidable contracts. In

CHAPTER 6 RESCISSIBLE CONTRACTS GENERAL RULE: ART. 1380. Contracts validly agreed upon may be rescinded in the cases established by law. MEANING OF RESCISSIBLE CONTRACTS Rescissible contracts are those validly agreed upon because all the essential elements exist and, therefore, legally effective, but in the cases established by law, the remedy of rescission is granted in the interest of equity. BINDING FORCE OF RESCISSIBLE CONTRACTS They are valid and enforceable although subject to rescission by the court when there is damage or prejudice to one of the parties or to a third person. In a rescissible contract, there is no defect at all but by reason of some external facts, its enforcement would cause injustice. MEANING OF RESCISSION Rescission is an equitable remedy granted by law to the contracting parties and sometimes even to third persons in order to secure reparation of damages caused by a valid contract,2 by means

of the restoration of things to their condition prior to the celebration of said contract. REQUISITES OF RESCISSION (1) The contract must be validly agreed upon (Art. 1380); (2) There must be lesion or pecuniary prejudice or damage to one of the parties or to a third person (Art. 1381.); (3) The rescission must be based upon a case especially provided by law (Arts. 1380, 1381, 1382.); (4) There must be no other legal remedy to obtain reparation for the damage (Art. 1383.); (5) The party asking for rescission must be able to return what he is obliged to restore by reason of the contract (Art. 1385, par. 1.); (6) The object of the contract must not legally be in the possession of third persons who did not act in bad faith (Ibid., par. 2.); and (7) The period for filing the action for rescission must not have been prescribed. (Art. 1389.) It has been held that a contract for the sale of personal property expressly providing that the owner may rescind it if the purchaser fails to make the payments stipulated therein is not governed by Articles 1380, et seq., but rather by Articles 1191 and 16003 of the Civil Code. (Art. 1381) ART. 1381. The following contracts are rescissible: (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. CASES OF RESCISSIBLE CONTRACTS. The subsidiary action for rescission (Art. 1383.) is limited to the rescissible contracts under Article 1381. (1) Contracts entered into on behalf of wards. — A ward is a person under guardianship by reason of some incapacity. (see Art. 1329.) As a rule, the powers of the guardian with respect to the property of the ward are limited to mere acts of administration. Contracts involving real property must be approved by the court (see Arts. 320, 326; Rules of Court, Rules 95, 96.); otherwise, they are unenforceable. (see Art. 1403[1].) EXAMPLE: G is the guardian of W (ward). G sells the property of W worth P20,000.00 for only P15,000.00. The contract of sale cannot be rescinded because the lesion4 is not more than one-fourth. However, if the property is sold for less than P15,000.00, W can rescind the sale by proper action in court upon reaching the age of majority (2) Contracts agreed upon in representation of absentees. — An absentee is a person who disappears from his domicile, his whereabouts being unknown, and without leaving an agent to administer his property. A court may appoint a person to represent him specifying his powers and obligations in accordance with the

rules concerning guardians. (see Arts. 381-382.) Likewise, the absentee must suffer lesion by more than one-fourth of the value of the property object of the contract to entitle him to the remedy of rescission. It must be noted that paragraphs 1 and 2 refer only to transactions by guardians and absentees’ representatives. Rescission cannot take place if the contracts have been approved by the court. As a general rule, lesion does not invalidate a contract except only in special cases specified by law. (see Art. 1355.) (3) Contracts undertaken in fraud of creditors. — The action to rescind in fraud of creditors is known as accion pauliana. Here, as in No. (4), the remedy of rescission may be availed of by a third person. Such contracts are usually made without the knowledge of the creditors. In order that fraud of creditors may be a valid ground for rescission, the following requisites must also be present: (a) There must be an existing credit prior to the contract to be rescinded, although it is not yet due or demandable later; (b) The subsequent contract made by the debtor conveys a patrimonial benefit to a third person; (c) There must be fraud on the part of the debtor which may be presumed or proved (see Art. 1387.); (d) The creditor has no other legal remedy to satisfy his claim (see Art. 1383.), that is, he cannot recover his credit in any other manner, it not being required that the debtor be insolvent. (see Art. 1177.) All these circumstances must concur in a given case. The presence of only one of them is not enough. While it is necessary that the credit of the plaintiff in the accion pauliana must exist prior to the fraudulent alienation, the date of the judgment enforcing it is

immaterial. Even if the judgment is subsequent to the alienation, it is merely declaratory with retroactive effect to the date when the credit was constituted. A person is free to dispose of all his property as absolute owner thereof. The only limitation established by law is that he could not transfer his property to another in fraud of creditors. In order that a contract of sale may be rescinded as in fraud of creditors, it is necessary that it be shown that both contracting parties (e.g., vendor and vendee) had acted maliciously and with fraud and for the purpose of prejudicing said creditors. Rescission is generally unavailing should a third person acting in good faith, is in lawful possession of the property, that is to say, he is protected by law against a suit for rescission by the registration of the transfer to him. Contracts entered into without such mal-intent are not rescissible, even if, as a consequence thereof, the creditor may suffer some damage. The onus of proving by competent evidence the existence of such fraudulent intent on the part of the debtor rests on the creditor seeking rescission. It cannot be presumed from the mere fact that the price paid for property sold is slightly lower than its market value. If the alienation is by gratuitous title, the fraud is presumed. (see Art. 1387, par. 1.) Where the fraud charged is not the one used to obtain a party’s consent to a contract (Art. 1338.), it can only be a fraud of creditors that gives rise to a rescission of the offending contract. (4) Contracts which refer to things under litigation. — In No. (3), the purpose of the remedy is to secure the payment of an existing credit of a third person against a party to a contract sought to be rescinded. Here, the purpose is to make effective the claim of a party

litigant over a thing under litigation which was the object of a contract entered into by the other party with another person. The right to file the action for rescission arises in favor of the plaintiff when the defendant enters into a contract over the thing in litigation without the knowledge or approval of the plaintiff or the court

“Art. 1659. If the lessor or the lessee should not comply with the obligations set forth in Articles 1654 [referring to obligations of the lessor] and 1657 [referring to obligations of the lessee], the aggrieved party may ask for the rescission of the contract and indemnification for damages, or only the latter, allowing the contract to remain in force.”

EXAMPLE: S sues B for the recovery of a parcel of land. In this case, the land is a “thing under litigation.” If, during the pendency of the case, B sells the land to C without the approval of S or of the court, the sale is rescissible at the instance of S in case he wins in his suit for the recovery of said land unless C is in legal possession of the land in good faith. (Art. 1385, par. 2.) S, however, may protect his right by filing a notice of lis pendens. (Sec. 14, Rule 13, Rules of Court.) If the action involves personal property, S may petition the court for the issuance of an order of attachment (Secs. 1, 2, Rule 57, Ibid.) or the appointment of a receiver (Sec. 1, Rule 59, Ibid.) to place the property in custodia legis.

Under Article 1539, the vendee may exercise the remedy of rescission, when the lack in the area of the real estate sold be not less than one-tenth of that stated or when the inferior value of the thing sold exceeds one tenth of the price agreed upon. (see also Arts. 1526, 1534, 1539, 1542, 1556, 1560, 1567.)

(5) Other instances. — Some of the specific contracts subject to rescission are as follows: “Art. 1098. A partition, judicial or extrajudicial, 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. 1470. Gross inadequacy of price does not affect a contract of sale, except as it may indicate a defect in the consent, or that the parties really intended a donation or some other act or contract.’’ (n)

Under Article 1599, where there is a breach of warranty by the seller, the buyer may, at his election, rescind the contract of sale and refuse to receive the goods or if the goods have already been received, return them or offer to return them to the seller and recover the price or any part thereof which has been paid. The refusal of the buyer to pay the remaining balance of the agreed consideration on the alleged ground of vice or defect in the goods sold, while at the same time possessing and enjoying the same, is untenable both on the grounds of law and equity. (6) Violation of right of first refusal. — The Supreme Court, in a number of cases, upheld the rescission of a deed of sale which violated a right of first refusal granted to one (lessee) of the parties. The prevailing doctrine is that a right of first refusal means identity of terms and conditions to be offered to the lessee and all other prospective buyers and a contract of sale entered into in violation of the right is rescissible under Articles 1380 to 1381(3) Such violation constitutes a valid cause of action enforceable by an action for specific performance.

Where there is no showing of bad faith in the part of the vendee, the sale may not be rescinded. The remedy of the person with the right of first refusal is an action for damages against the vendor. Rescission for breach of contract and rescission by reason of lesion distinguished. A distinction must be made between a rescission for breach of contract under Article 1991 and a rescission by reason of lesion or economic prejudice under Article 1381, et seq. considering the patent difference in causes and results of either action. (1) The rescission on account of breach of stipulations is not predicated on injury to economic interests of the party plaintiff but on the breach of faith by the defendant, that violates the reciprocity between the parties. It is not a subsidiary action, that is, the action for rescission is not subordinated to anything other than the culpable breach of his obligations by the defendant. The rescission is a principal action, retaliatory in character, it being unjust that a party be held bound to fulfill his promises when the other violates his. Hence, the reparation of damages for the breach is purely secondary. (2) On the contrary, in the rescission by reason of lesion or economic prejudice, the cause of action is subordinated to the existence of that prejudice, because it is raison d’etre as well as the measure of the right to rescind. Hence, where the defendant makes good the damages caused, the action cannot be maintained or continued, as expressly provided in Articles 1383 and 1384. But the operation of these two articles is limited to the cases of rescission for lesion enumerated in Article 1381, and does not apply to cases under Article 1191

From the foregoing, it is clear that rescission under Article 1191 is a principal action, while rescission under Article 1383 is a subsidiary action. The former is based on breach by the other party that violates the reciprocity between the parties, while the latter is not. According to the Code Commission, however, the provisions of Chapter 6 on rescissible contracts are intended to regulate all such contracts. This is shown not only by the enumeration in the first four numbers but by the all-inclusive wording of number 5 which speaks of “all other contracts x x x” in Article 1381. (Memorandum of the Code Commission, March 8, 1951, p. 21.) ART. 1382. Payments made in a state of insolvency for obligations to whose fulfillment the debtor could not be compelled at the time they were affected, are also rescissible. (1292) Payments made in a state of insolvency. The present article speaks of “payments” not exactly of a contract. A debtor is insolvent if he does not have sufficient properties to meet his obligations. It is not necessary that debtor’s insolvency be judicially declared. Under this article, the payments must have been made “for obligations to whose fulfillment the debtor could not be compelled at the time they were affected.” Such payments are also rescissible.6 Included in the obligations referred to are not only those that have not yet become due and demandable (i.e.,obligations with a suspensive period or condition) but also those which cannot legally be demanded such as natural obligations and those that have been prescribed.

ART. 1383. The action for rescission is subsidiary; it cannot be instituted except when the party suffering damage has no other legal means to obtain reparation for the same. Rescission of contracts under Article 1383 should be distinguished from rescission of reciprocal obligations under Article 1191. Although both presuppose contracts validly entered into and subsisting and both require mutual institution when proper, they are not entirely identical. (1) Rescission under article 1383 is not a principal remedy.7 It is only subsidiary and can be availed of only if the injured party proves that he has no other legal means aside from rescinding the contract to obtain satisfaction for his claim or redress for the damage caused8 (see Art. 1177.) even if the contract is covered by Article 1381. Thus, in a deed of sale with a deed of mortgage to secure payment of the balance of the purchase price, which grants to the vendor-mortgagee the right to foreclose “in the event of failure of the vendee-mortgagor to comply with any provision of this mortgage,’’ the action for rescission cannot be instituted in case of breach of obligation, in view of the presence of the remedy of foreclosure accorded not only by law but under the contract between the parties. (2) If the damage is repaired, as in the case of lesion suffered by the ward or absentee, rescission cannot take place. (3) A rescissible contract may be assailed directly only by a proper action in court, and not indirectly or collaterally by way of defense. An independent action is necessary to prove that a contract is rescissible. It may not be raised or set up in a summary proceeding through a motion.

ART. 1384. Rescission shall be only to the extent necessary to cover the damages caused. Extent of rescission. The entire contract need not be set aside by rescission if the damage can be repaired or covered by partial rescission. The rescission shall only be to the extent of the creditor’s unsatisfied credit. The policy of the law is to preserve or respect the contract, not to extinguish it. EXAMPLES: (1) G, the guardian of M, a minor was authorized by the court to sell two parcels of land valued at P200,000.00 each. G sold the two properties to B for only P200,000.00. In this case, the entire contract need not be rescinded. Rescission may properly be applied only to one parcel to cover the damage caused by G. (see Art. 1381[1].) But if G or B is willing to pay the difference of P200,000.00, rescission is precluded. (2) S sold his only property, a parcel of land with an area of 3,000 square meters, to B to defraud C, a creditor of S. If the value of 1/3 of the land is sufficient to cover the damage caused to C, then the rescission shall only be to that extent. The alienation with respect to the 2/3 portion is valid even if B had acted in bad faith. Under Article 1384, only the creditor who brought action for rescission benefited from the rescission; those who are strangers to the action cannot benefit from its effects.

ART. 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. 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. In this case, indemnity for damages may be demanded from the person causing the loss. Effect of rescission. (1) Obligation of mutual restitution. — Rescission creates the obligation of mutual restitution. There is no obligation to restore if nothing has been received. When the court declares a contract rescinded, the parties must return to each other (a) the object of the contract with its fruits and (b) the price thereof with legal interest. For example, in a contract of sale rescinded by the buyer, the seller has the obligation to return the purchase price or amount received plus legal interest from the date he received notice of rescission up to the date of the return. The purpose of rescission...