Pledge & Mortgage

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Essential requisites common to pledge and mortgage – The essential requisites of the contracts of pledge and mortgage are as follows:[1]

  • That they be constituted to secure the fulfillment of a principal obligation;[2]
  • That the pledgor or mortgagor be the absolute owner of the thing pledged or mortgaged;[3] and
  • That the persons constituting the pledge or mortgage have the free disposal of their property, and in the absence thereof, that they be legally authorized for the purpose.[4]

Arenas v. Raymundo
G.R. No. L-5741, 13 March 1911 (En Banc)

Plaintiffs Estanislau Arenas, et. al., brought suit to recover certain jewelry from defendant Fausto Raymundo, who owned a pawnshop. Previously, without their consent, plaintiffs’ jewelry were pledged by their agent in the person of Conception Perello at Raymuno’s pawnshop.

HELD: Defendant was liable and ordered to return the jewelry to plaintiffs.In the [separate] case prosecuted against Perello, as also in the present suit, it was not proven that Estanislau Arenas authorized the former to pawn the jewelry given to her by Arenas to sell on commission… because Conception Perello was not the legitimate owner of the jewelry which she pledged to the defendant Raymundo, for a certain sum that she received from the latter as a loan, the contract of pledge entered the jewelry so pawned cannot serve as security for the payment of the sum loaned, nor can the latter be collected out of the value of the said jewelry.

Article 1857 of the Civil Code prescribes as one of the essential requisites of the contracts of pledge and of mortgage that the thing pledged or mortgaged must belong to the person who pledges or mortgages it. This essential requisite for the contract of pledge between Perello and the defendant being absent as the former was not the owner of the jewelry given in pledge, the contract is as devoid of value and force as if it had not been made, and as it was executed with marked violation of an express provision of the law, it cannot confer upon the defendant any rights in the pledged jewelry, nor impose any obligation toward him on the part of the owner thereof, since the latter was deprived of her possession by means of the illegal pledging of the said jewelry, a criminal act.”

Alienation of secured property for non-payment/performance of principal obligation becoming due – The essence of the contract of pledge and mortgage is the alienation of the secured property to the creditor due to the debtor’s non-payment/performance of the principal obligation which becomes due.[5]

Same; Pactum commissorium prohibited – A stipulation on pactum commissorium where the creditor automatically appropriates the secured property or dispose of it is void.[6] The elements of pactum commissorium are as follows: (a) there should be a property mortgaged by way of security for the payment of the principal obligation; and (b) there should be a stipulation for automatic appropriation by the creditor of the thing mortgaged in case of non-payment of the principal obligation within the stipulated period.[7]

Garcia v. Villar
G.R. No. 158891, 27 June 2012

Lourdes V. Galas, with her daughter as co-maker, borrowed Php2.2 million from complainant Yolanda Valdez Villar. Subsequently, the mother and daughter borrowed Php1.2 million from defendant Pablo P. Garcia. Both loans were secured by the same property and they were both annotated on the TCT. Thereafter, Galas sold the mortgaged property to defendant for Php1.5 million. Complainant initiated this complaint seeking to invalidate the sale on the ground, among others, that the Deed of Real Estate of Mortgage contained a stipulation on pactum commissorium as it appointed defendant as the mortgagor’s attorney-in-fact to sell the property in case the mortgagor defaults.

HELD: Defendant’s purchase was valid as it did not violate the rule on pactum commissorium. “The power of attorney provision above did not provide that the ownership over the subject property would automatically pass to Villar upon Galas’s failure to pay the loan on time.  What it granted was the mere appointment of Villar as attorney-in-fact, with authority to sell or otherwise dispose of the subject property, and to apply the proceeds to the payment of the loan.” Such a stipulation is customary in mortgage contracts.

Galas’ decision to eventually sell the subject property to Villar for an additional P1,500,000.00 was well within the scope of her rights as the owner of the subject property.  The subject property was transferred to Villar by virtue of another and separate contract, which is the Deed of Sale.  Garcia never alleged that the transfer of the subject property to Villar was automatic upon Galas’s failure to discharge her debt, or that the sale was simulated to cover up such automatic transfer.”

Indivisibility of pledge or mortgage – Despite dividing the debt among the debtor’s successors in interest[8] or of the creditor,[9] the pledge or mortgage remains indivisible.[10] The indivisibility of a pledge or mortgage remains and it is not affected by the fact that the debtors are not solidarily liable.[11]

Secures all obligations – The contract of pledge or mortgage secures all kinds of obligations, whether they are pure or conditional.[12]

Promise to pledge or mortgage results only in personal action – If a person promised to constitute a pledge or mortgage, such will only give rise to a personal action by and between the contracting parties.[13]

Pledge

What constitutes a pledge – In addition to the requisites mentioned earlier, a pledge requires the parties to agree that the thing pledged is to be placed in the possession of the creditor  or of a third person.[14]

What may be pledged – All movables within the commerce of man and susceptible of possession may be pledged.[15]

Same; Incorporeal rights – The thing pledged may be incorporeal rights, as evidenced by negotiable instruments, bills of lading, shares of stock, bonds, warehouse receipts and similar documents.[16] The instrument proving the right pledged is required to be delivered by the debtor to the creditor, and if negotiable, it must be indorsed.[17]

Pledge affects third persons only if formalities are observed – A contract of pledge affects third persons only if a description of the thing pledged and the date of the pledge appears in a public instrument.[18]

Pledgor or owner may alienate thing pledged with consent of pledgee – The pledger or owner may sell, transfer, or alienate the thing pledged provided the pledgee consents and subject to the contract of pledge.[19]

Creditor’s right to retain thing pledged – Until the debt has been completely paid, the creditor has the right to retain the thing in his possession or in that of a third person to whom it has been delivered in a contract of pledge.[20]

Presumption of remission of pledge – In a pledge, there exists a presumption that the accessory of obligation of a 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.[21]

Default standard of care – The creditor is required to take care of thing pledged with the diligence of a good father of a family.[22] Consequently, the creditor has a right to reimbursement of the expenses made for its preservation, and is liable for its loss or deterioration as provided for by law.[23]

Requires authority for pledge deposited with a third person – For the thing pledged to be deposited with a third person, the pledgee must be authorized by the pledgor through a stipulation.[24]

Best Legal Practices

  • Obtain consent to deposit 3rd person – To avoid liability, the pledgee should obtain a written consent from the pledger to deposit the thing pledged with a third person.

Pledgor’s liability for damages – The pledgor, who knew of the flaws of the thing pledged and does not advise nor inform the pledgee of the same, is liable for damages that the pledgee may suffer by reason thereof.[25]

Pledge’s fruits, income, dividends, or interest to be off-set by creditor – The creditor is required to off-set what is owing to him with what he receives by virtue of the pledge’s fruits, income, dividends, or interest.[26] If none is owing to him, the creditor is required to apply the same to the principal obligation insofar as the amount may exceed that which is due.[27] Unless otherwise stipulated, the pledge extends to the interests and earnings of the right pledged.[28]

Ownership of thing pledged to the owner – The owner of the thing pledged remains as such until it is expropriated.[29] However, the creditor may exercise the rights of the owner and bring actions for purposes of recovering the thing pledged, or defend it against a third person.[30]

Use of thing pledged by creditor requires authority of owner – For the creditor to validly use the thing pledged, he must obtain authority from the owner.[31] If the thing pledged is required to be used for its preservation, the creditor is to use it only for that purpose.[32] Failure to do obtain such authority by the creditor or if he mis-uses the thing in any other way than that for which he was authorized, the owner has the right to have the thing pledged be judicially or extrajudicially deposited.[33] Similarly, the pledgor has the right to require that the thing pledged be deposited with a third person if the thing pledged s in danger of being lost or impaired due to the pledgee’s negligence or willful act.[34]

Return of thing pledged requires full payment – The debtor can only ask for the return of the thing pledged after he has fully paid the debt and its interest, including expenses in proper cases.[35] However, the pledgor has the right to demand the return of the thing pledged provided he offers a replacement of the same kind as the former and not of inferior quality and on reasonable grounds to fear the destruction or impairment of the item without the fault of the pledgee, who in turn will not be prejudiced by substitution.[36] Without delay, the pledgee is required to advise the pledgor of any danger to the thing pledged.[37]

When sale of thing pledged warranted due to danger of destruction impairment, or diminution of value – The pledgee who is not at fault has the right to cause the public sale of the thing pledged if the latter is in danger of destruction, impairment, or diminution in value.[38] The proceeds of the sale are to become a security of the principal obligation subject to the same terms and conditions of the pledge.[39]

Deceived creditor’s options – The creditor who has been deceived on the substance or quality of the thing pledged has the following options: (a) to claim a substitution of the thing pledged, or (b) to demand immediate payment of the principal obligation.[40]

Return of thing pledged extinguishes pledge – The return by the pledgee to the pledgor/owner of the thing pledged extinguishes the contract of pledge.[41] Any contrary stipulation is void.[42] There arises a prima facie presumption that the thing pledged has been returned by the pledgee if: (a) the item is in the possession of the pledgor/owner subsequent to the perfection of the contract of pledge, or (b) the item is in the possession of a third person who has received it from the pledgor/owner after the contract of pledge was constituted.[43]

Renunciation or abandonment of thing pledged in writing by the pledge extinguishes contract of pledge – The pledgee who renounces or abandons the thing pledged through a statement in writing is sufficient to extinguish the contract of pledge.[44] The acceptance or the pledgor/owner is not necessary, as well as the physical return of the thing pledged.[45] However, the pledgee becomes a depositary in such a situation.[46]

Notarial sale of thing pledged – Once the debt has become due and demandable, and credit has not been satisfied in due time, the creditor has the right to the notarial sale of the thing pledged to be conducted by a Notary Public.[47] After due notice to the debtor and the owner of the thing pledged in a proper case, the sale will proceed through public auction.[48]

Same; Right to bid by the pledgor, owner, and pledgee –The pledgor/owner has these rights: (a) to bid at the public auction; and (b) to be preferred (better right) if he offers the same terms as the highest bidder.[49] The pledgee has the right to bid provided there is at least another bidder.[50]

Same; Purchase price paid at once – At the public auction, all bidders are considered to have made an offer to pay the purchase price at once.[51] If any other bid is accepted, the pledgee is deemed to have received the purchase price insofar as the pledgor/owner is concerned.[52]

Same; No sale after two auctions – If after two auctions the item is still not sold, the creditor has the right to appropriate the thing pledged.[53] If he exercises such right, he is obligated to execute a quitclaim for his entire claim.[54]

Same; Sale extinguishes principal obligation – The sale of thing pledged extinguishes the principal obligation regardless of whether or not the proceeds of the sale are equal to the amount of the principal obligation, interests, and expenses in a proper case.[55] Unless otherwise stipulated, the debtor is not entitled to the excess if the price is higher than the principal obligation, interests, and expenses.[56] On other hand, the creditor is not entitled to recover any deficiency if the price is less even if there is a contrary stipulation as such clause is void.[57]

Best Legal Practices

  • Debtor to stipulate that he is entitled to excess in price – By default the debtor is not entitled to excess in the price, he should then expressly stipulate in the contract of pledge that he is entitled thereto in order for it to be due.

Same; Pledgee to promptly advise pledger or owner of results is public auction – The pledge is obligated to promptly advise the pledgor or owner of the results of the public auction.[58]

Rights of third person with right in/to thing pledged – A third person who has a right in/to the thing pledged has the right to satisfy the principal obligation as soon as it becomes due and demandable.[59]

Pledgee has right to collect and receive amount due of credit pledged before redemption – The pledgee has the right to collect and receive the amount due of the credit pledged if the same becomes due before it is redeemed.[60] The pledgee is required to apply the amounts received to the payment of his claim, as well as deliver the surplus to the pledgor.[61]

Pledgee has right to choose which of several things pledged to be sold – The pledgee has the right to choose which of several things pledged to be sold unless there is a contrary stipulation.[62] To satisfy the payment of the debt, he has the right to demand the sale of only as many of the things as are necessary.[63]

Third party securing an obligation by pledging his own movable property has rights of guarantor – The third party who secured an obligation by pledging his own movable property has the same rights as a guarantor.[64] Thus, he is not prejudiced by any waiver of defense by the principal obligor.[65]

Rules for pledges created by operation of law – Pledges which were created by operation of law may only be sold after a demand is made for the amount for which the thing is retained.[66] Within a month after the demand, the public auction will proceed.[67] If after such period the creditor does not provide for any justifiable ground as to why there has been no public sale, the debtor has the right to require the return of the thing pledged.[68] If a public auction has been conducted, the obligor is entitled to the remainder or excess of the price after applying it to the debt and expenses.[69]

Pawnshops and other establishments governed by special laws – For pawnshops and other establishments engaged in making loans secured by pledges, they are governed by special laws, regulations, and subsidiarily by the foregoing rules as provided in the Civil Code.[70]

Mortgage

Real estate mortgage

What constitutes a real estate mortgage – In a contract of mortgage, the properties which may be the object are: (a) immovable; and (b) alienable real rights in accordance with the laws, imposed upon immovables.[71]

Mortgage required to be recorded in Registry of Deeds to affect third persons – For a mortgage to be validly constituted in order to affect 3rd persons, it is indispensable that the mortgage document be recorded with the Registry of Deeds.[72] Notwithstanding the failure to record, the mortgage is still binding between the parties.[73]

Best Legal Practices

  • Register mortgage contract with Registry of Deeds – The contract of mortgage should be registered with the Registry of Deeds to bind third persons.
  • More than one mortgage over same real estate property allowed – So long as the subsequent mortgagee consents and the mortgage is sufficient to cover all debts, the mortgagor is allowed to mortgage the same real estate property to secure several obligations.
  • Sale of mortgaged real estate property allowed – As it is not prohibited and part of his rights as owner, the mortgagor is allowed to sell the mortgaged real estate property even if the same is still subject to the contract of mortgage. The caveat is on the buyer who will be bound and required to respect the consequences of a foreclosure of the recorded real estate mortgage contract.

Mortgagee’s rights – The mortgagee has these rights: (a) to demand the execution of the mortgage documents, and (b) to record the instrument with the Registry of Deeds.[74]

Effect and extent of mortgage – The mortgage directly and immediately subjects the property upon which it is imposed, whoever the possessor may be, to the fulfillment of the obligation for whose security it was constituted.[75] The mortgage extends to the natural accessions, to the improvements, growing fruits, and the rents or income not yet received when the obligation becomes due, and to the amount of the indemnity granted or owing to the proprietor from the insurers of the property mortgaged, or in virtue of expropriation for public use, with the declarations, amplifications, and limitations established by law, whether the estate remains in the possession of the mortgagor or it passes into the hands of a third person.[76]

Alienation or assignment of mortgage credit allowed – Subject to the formalities required by law, the mortgagee may alienate or assign the mortgaged credit whether in whole or in part to a third person.[77]

Creditor may go after third persons in possession of mortgaged property – The creditor/mortgagee has the right to claim from a third person in possession of the mortgaged property the payment of the credit secured by the mortgaged property following the terms and formalities required by law.[78]

Mortgagor or owner may sell or transfer mortgaged property – The mortgagor as owner of the property may sell, transfer, or alienate the mortgaged property and any stipulation to the contrary is void.[79]

Chattel Mortgage

What constitutes chattel mortgage – In a contract of chattel mortgage, personal property is recorded in the Chattel Mortgage Register as a security for the performance of an obligation.”[80]

Criminal liabilities for removal or sale of chattel mortgage – There are criminal liabilities for: (a) anyone who knowingly removes any personal property mortgaged under the Chattel Mortgage Law to any province or city other than the one in which it was located at the time of the execution of the mortgage without the written consent of the mortgagee, or his executors, administrators, or assigns;[81] or (b) any mortgagor who sells or pledges personal property already pledged, or any part thereof, under the terms of the Chattel Mortgage Law, without the consent of the mortgagee, written on the back of the mortgage and noted on the record thereof in the Office of the Registry of Deeds of the province where such property is located.[82]

Best Legal Practices

  • Include in chattel mortgage provisions manifesting necessary consent – Considering the criminal liabilities for removal or sale of chattel mortgage, it is best to include in the chattel mortgage contract provisions clearly manifesting the necessary consent for the following: (a) the removal of the personal property mortgaged under the Chattel Mortgage Law to any province or city other than where it was located at the time of the execution of the mortgage, or (b) the sale or pledge of the personal property already pledged, or any part hereof, under the terms of the Chattel Mortgage Law and, in such case, an additional provision authorizing either party to record such consent with the Registry of Deeds where the property is located.

[1] Ibid. Article 2185.

[2] Ibid. Article 2185 (1).

[3] Ibid. Article 2185 (2).

[4] Ibid. Article 2185 (3). “Third persons who are not parties to the principal obligation may secure the latter by pledging or mortgaging their own property” (Ibid.). A pledge or mortgage cannot exist without a valid obligation; however, they may be constituted to guarantee the performance of a voidable or an unenforceable contract, as well as a natural obligation (Article 2086 cf. 2052, Civil Code).

[5] Ibid. Article 2087.

[6] Ibid. Article 2088.

[7] Pablo P. Garcia v. Yolanda Valdez Villar, G.R. No. 158891, 27 June 2012.

[8] “Therefore, 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” (Paragraph 1, Article 2089, Civil Code). “The debtor, in this case, shall have a right to the extinguishment of the pledge or mortgage as the portion of the debt for which each thing is specially answerable is satisfied” (Paragraph 3, Article 2089, Civil Code).

[9] “Neither can the creditor’s heir who received his share of the debt return the pledge or cancel the mortgage, to the prejudice of the other heirs who have not been paid. From these provisions is excepted the case in which, there being several things given in mortgage or pledge, each one of them guarantees only a determinate portion of the credit” (Paragraph 1, Article 2089, Civil Code).

[10] CIVIL CODE. Paragraph 1, Article 2089. “Therefore, 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” (Ibid.).

[11] Ibid. Paragraph 1, Article 2090.

[12] Ibid. Article 2091.

[13] Ibid. Article 2092. The personal action is “without prejudice to the criminal responsibility incurred by him who defrauds another, by offering in pledge or mortgage as unencumbered, things which he knew were subject to some burden, or by misrepresenting himself to be the owner of the same” (Ibid.).

[14] Ibid. Article 2093.

[15] Ibid. Article 2094.

[16] Ibid. Article 2095.

[17] Ibid.

[18] Ibid. Article 2096.

[19] Ibid. Article 2097. “The ownership of the thing pledged is transmitted to the vendee or transferee as soon as the pledgee consents to the alienation, but the latter shall continue in possession” (Ibid.).

[20] Ibid. Article 2098.

[21] Ibid. Article 1274.

[22] Ibid. Article 2099.

[23] Ibid.

[24] CIVIL CODE. Article 2100. “The pledgee is responsible for the acts of his agents or employees with respect to the thing pledged” (Paragraph 2, Article 2100, Civil Code).

[25] Ibid. Article 2101, cf. Article 1951.

[26] Ibid. Article 2102. “In case of a pledge of animals, their offspring shall pertain to the pledgor or owner of animals pledged, but shall be subject to the pledge, if there is no stipulation to the contrary” (Ibid.).

[27] Ibid. Article 2102.

[28] Ibid.

[29] CIVIL CODE. Paragraph 1, Article 2103.

[30] Ibid. Paragraph 2, Article 2103.

[31] Ibid. Article 2104.

[32] Ibid.

[33] Ibid.

[34] Ibid. Article 2106.

[35] Ibid. Article 2105.

[36] Ibid. Paragraph 1, Article 2107.

[37] Ibid. Paragraph 2, Article 2107.

[38] Ibid. Article 2108.

[39] Ibid.

[40] Ibid. Article 2109.

[41] Ibid. Paragraph 1, Article 2110.

[42] Ibid.

[43] CIVIL CODE. Paragraph 2, Article 2110.

[44] Ibid. Article 2111.

[45] Ibid.

[46] Ibid.

[47] CIVIL CODE. Article 2112.

[48] Ibid. The notice should state the amount for which the thing pledged is going to be sold at the public auction.

[49] CIVIL CODE. Paragraph 1, Article 2113.

[50] Ibid. Paragraph 2, Article 2113.

[51] Ibid. Article 2114.

[52] Ibid.

[53] CIVIL CODE. Article 2112.

[54] Ibid.

[55] CIVIL CODE. Article 2115.

[56] Ibid.

[57] Ibid.

[58] CIVIL CODE. Article 2116.

[59] Ibid. Article 2117.

[60] Ibid. Article 2118.

[61] Ibid.

[62] CIVIL CODE. Article 2119.

[63] Ibid.

[64] CIVIL CODE. Article 2120.

[65] Ibid.

[66] CIVIL CODE. Article 2122. “Necessary expenses shall be refunded to every possessor; but only the possessor in good faith may retain the thing until he has been reimbursed therefor… Useful expenses shall be refunded only to the possessor in good faith with the same right of retention, the person who has defeated him in the possession having the option of refunding the amount of the expenses or of paying the increase in value which the thing may have acquired by reason thereof” (Article 546, Civil Code). “He who has executed work upon a movable has a right to retain it by way of pledge until he is paid” (Article 1731, Civil Code). “The depositary may retain the thing in pledge until the full payment of what may be due him by reason of the deposit” (Article 1994, Civil Code).

[67] Ibid.

[68] Ibid.

[69] CIVIL CODE. Article 2121.

[70] Ibid. Article 2123.

[71] Ibid. Paragraph 1, Article 2144; See also Paragraph 2, Article 2124, Civil Code. “The form, extent and consequences of a mortgage, both as to its constitution, modification and extinguishment, and as to other matters not included in this Chapter, shall be governed by the provisions of the Mortgage Law and of the Land Registration Law.” (Article 2131, Civil Code)

[72] CIVIL CODE. Paragraph 1, Article 2125.

[73] CIVIL CODE. Paragraph 1, Article 2125.

[74] Ibid. Paragraph 2, Article 2125.

[75] Ibid. Article 2126.

[76] Ibid. Article 2127.

[77] Ibid. Article 2128.

[78] Ibid. Article 2129.

[79] Ibid. Article 2130.

[80] Ibid. Article 2140. “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” (Ibid.). “The provisions of [the Civil] Code on pledge, insofar as they are not in conflict with the Chattel Mortgage Law shall be applicable to chattel mortgages” (Article 2141, Civil Code).

[81] REVISED PENAL CODE. Article 319 (1).

[82] Ibid. Article 319 (2).

©2020 BUSINESSLAW.PH. All rights reserved. Statements and opinions of the author are of his own, and does not reflect any organization he may be connected or affiliated. All information herein are for educational and general information only. The content should not be considered as a legal advice or opinion. Please consult a lawyer to address your specific concerns.
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