Republic of the Philippines
SUPREME COURT
Manila
SECOND DIVISION
G.R. No. 174055 February 12, 2008
PHILIPPINE NATIONAL BANK, petitioner,
vs.
SPOUSES WILFREDO and ESTELA ENCINA, respondents.
DECISION
TINGA, J.:
The Philippine National Bank (PNB) assails the Decision1 of the Court of Appeals dated 15 May
2005, rendered in CA-G.R. CV No. 79094 which, among others, declared null and void the
interest rate imposed by PNB on the loan obtained from it by respondents and the consequent
extrajudicial foreclosure of the properties offered as security for the loan.
The facts are summarized by the appellate court, thus:
On September 13, 1995, as additional capital for their metal craft business, plaintiffs-
appellants ENCINA obtained a P500,000.00 loan with defendant-appellee PNB, secured
by a promissory note, a real estate mortgage, and a credit agreement, on parcels of land
covered by Transfer Certificate of Title (TCT) Nos. T-6788 and T-6789 located at
Occidental Mindoro.
Thereafter, or on September 6, 1996, plaintiffs-appellants obtained an additional
P200,000.00 loan with defendant-appellee PNB as additional capital for palay
production, embodied in a credit agreement and a promissory note, secured by the same
parcels of land. The loan obligations of plaintiffs-appellants ENCINA were fully paid on
February 4, 1997.
Another loan in the amount of P400,000.00 as capital for a common carrier business was
obtained by plaintiffs-appellants ENCINA with defendant-appellee PNB, secured by a
promissory note and a time loan commercial credit agreement, likewise secured by the
parcels of land covered by TCT Nos. T-6788 and T-6789.
Defendant-appellee PNB subsequently granted a P1,250,000.00 all purpose credit facility
to plaintiffs-appellants ENCINA to be used by plaintiffs-appellants ENCINA exclusively
for their metal craft business. Plaintiffs-appellants ENCINA availed of the amount of
P1,050,000.00 of the credit facility, evidenced by a promissory note dated February 13,
1998 secured by the same parcels of land as well. Plaintiffs-appellants ENCINA later on
availed of the remaining P200,000.00 credit facility, secured by a promissory note dated
May 22, 1998.
On the maturity date of the P1,250,000.00 loan obligation, plaintiffs-appellants ENCINA
failed to pay, prompting defendant-appellee PNB to demand the same from plaintiffs-
appellants ENCINA, in letters dated January 5, 1999, January 21, 1999, March 5, 1999,
April 16, 1999, and May 27, 1999. Demands from defendant-appellee PNB were left
unheeded, prompting defendant appellee PNB to file a petition for sale of the mortgaged
properties with defendant-appellee Ex-Officio Sheriff of the Regional Trial Court of San
Jose, Occidental Mindoro on September 20, 1999.
The extra-judicial sale of the mortgaged properties of plaintiff-appellant ENCINA was
published in "The Island Observer," a newspaper of general circulation in the province of
Occidental Mindoro, on October 4, 11, and 18, 1999. A notice of extra-judicial sale was
issued on October 4, 1999. The foreclosure sale was thereafter conducted on November
15, 1999 with defendant-appellee PNB as the highest bidder. A certificate of sale dated
November 16, 1999 was then issued in favor of defendant-appellee PNB.
Thereafter, or on January 22, 2001, titles to the subject properties were consolidated in
defendant-appellee PNB’s name, to which TCT Nos. 16919 and 16920 were issued.
On November 15, 2001, a contract of lease was executed between defendant-appellee
PNB and plaintiffs-appellants ENCINA over the subject properties, pursuant to a request
made by plaintiffs-appellants ENCINA that they be allowed by defendant-appellee PNB
to lease the subject premises for a monthly rental of P7,500.00.
Finally, on July 18, 2002, plaintiffs-appellants ENCINA sued defendants-appellees in an
action for the nullification of foreclosure sale and damages, with prayer for extension
and/or grace period, with the RTC of San Jose, Occidental [Mindoro], Branch 46,
docketed as Civil Case No. R-1304, alleging that their loan obligations, being
agricultural, hence, with longer gestation periods, should have been restructured by
defendant-appellee PNB for a longer period of at least seven years; that no penalties
should have been imposed by defendant-appellee PNB; that the extra-judicial foreclosure
sale of their properties was null and void; that for being in violation of the Usury Law,
the loan contracts and all accessory contracts pertaining thereto were null and void; and
that the foreclosure proceedings under RA 3135 were not complied with, hence, the
entire foreclosure proceedings were null and void.
In the motion to dismiss filed by defendant-appellee PNB on October 11, 2002, it averred
that plaintiffs-appellants ENCINA could no longer seek for (sic) longer gestation periods
for their agricultural loans, since plaintiffs-appellants ENCINA’s agricultural loans dated
September 13, 1995 and February 13, 1998 have already been fully paid by them on
February 4, 1997; that plaintiffs-appellants ENCINA failed to settle their loan for metal
craft business and not their agricultural loans; that the Usury Law was inapplicable being
legally non-existent; that defendant-appellee PNB complied with the requirements of
posting and publication set forth in RA 3135; and that plaintiffs-appellants ENCINA had
already waived their right to question PNB’s title to the properties, considering that
plaintiffs-appellants [ENCINA] requested from PNB that they be allowed to lease the
subject premises from PNB.2
In its Order3 dated 10 March 2003, the trial court dismissed the complaint.
The dismissal was reversed by the Court of Appeals principally on its finding that there was no
definite agreement as to the interest rate to be imposed on the loan. Therefore, the loan cannot be
said to have matured so as to justify the extrajudicial foreclosure of the mortgaged properties. The
appellate court denied reconsideration in its Resolution4 dated August 4, 2006.
PNB contends that the Court of Appeals should not have rendered a decision on the merits
considering that the parties have not offered evidence on their respective claims and defenses, the
complaint having been dismissed by the trial court on PNB’s motion. It also argues that
respondents should be deemed to have admitted PNB’s ownership over and title to the foreclosed
properties when they leased the foreclosed properties from PNB.
It insists that the determination of the applicable interest rate was not left to its sole will because
respondents agreed that the interest rates are to be set by PNB’s management for each of the
interest periods and the latter had the option to accept or reject the rate imposed on their loan. It
further avers that there is nothing on record to support the appellate court’s conclusion that the
foreclosure proceedings, the public sale, and the certificate of sale are null and void.5
Respondents insist on the nullity of the provision in the promissory notes to the effect that the rate
of interest "will be set by the Management" of PNB, echoing the appellate court’s declaration that
this provision violates the principle of mutuality of contracts.6
The case before the Court of Appeals was filed pursuant to Rule 41 of the 1997 Rules of Civil
Procedure which provides that an ordinary appeal may be filed to question a judgment or final
order of the Regional Trial Court rendered in the exercise of its original jurisdiction. The appeal
limits the questions to be reviewed to errors of fact or law committed by the trial court.
In this case, the issue presented to the appellate court was the propriety of the dismissal of
respondents’ complaint principally on the ground that it states no cause of action. The appellate
court was called upon to review the sufficiency of the allegations made in the complaint
constituting the cause of action and thereafter to determine whether the trial court erred in
dismissing the complaint.
A cause of action exists if the following elements are present, namely: (1) a right in favor of the
plaintiff by whatever means and under whatever law it arises or is created; (2) an obligation on
the part of the named defendant to respect or not to violate such right; and (3) an act or omission
on the part of such defendant violative of the right of the plaintiff or constituting a breach of the
obligation of the defendant to the plaintiff for which the latter may maintain an action for
recovery of damages.7
In order to sustain a dismissal on the ground that the complaint states no cause of action, the
insufficiency of the cause of action must appear on the face of the complaint, and the test of the
sufficiency of the facts alleged in the complaint to constitute a cause of action is whether or not,
admitting the facts alleged, the court could render a valid judgment upon the same in accordance
with the prayer of the complaint. For this purpose, the motion to dismiss must hypothetically
admit the truth of the facts alleged in the complaint.8
In their complaint, respondents averred:
FIRST CAUSE OF ACTION:
5. The loan is an agricultural loan to be used as operating capital in palay production as
evidenced by the Credit Agreement (hereto attached as Annex "H");
6. Being an agricultural loan with long gestation period, the loan should have been
restructured for a longer period of at least seven (7) years and no penalties should have
been imposed pursuant to Central Bank Circulars and the Agricultural Modernization Act
of 1997;
7. Inspite of the request of the Plaintiffs to restructure the loan or for a grace period, the
Defendant Bank failed and refused to do so. Furthermore, penalty charges should not
have been imposed;
8. The Plaintiffs requested for a detailed computation of the amount due considering the
payments that were made but the Defendant Bank failed and refused to do so;
9. That in view of the violation of the Central Bank Circulars and the Agricultural
Modernization Act of 1997, the Extra-judicial Foreclosure Sale of the subject properties
issued in favor of the Defendant Bank is null and void, including all proceedings thereto.
SECOND CAUSE OF ACTION
10. Considering that all the loan covered by the said Promissory Notes are secured with a
mortgage upon registered real estate, all those contracts of loan are null and void because
they are in violation of or contrary to the provisions of the Usury Law (Act No. 2655, as
amended) particularly Section 2 thereof which is photocopied hereunder from Philippine
Permanent and General Statutes, to wit:
xxx
11. In view of the violation of the Usury Law, the contracts of loan, and its accessory
contracts are likewise null and void, namely: a) Real Estate Mortgage Contract, as well as
Promissory Notes executed therewith are also null and void.
12. That in view of the nullity of the contracts of loan and the real estate mortgage
contracts, the Extra-judicial Foreclosure Sale of subject property issued in favor of the
Defendant Bank is also null and void, including all proceedings thereto, the minutes and
the subsequent Certificate of Sale is also void;
THIRD CAUSE OF ACTION
13. The Extra-judicial foreclosure proceedings and public auction sale of the properties of
the Plaintiffs failed to comply with the provisions of Section 3, of Act No. 3135, as
amended, which provides:
Section 3. Notice shall be given by posting notices of the sale for not less than twenty
days in at least three public places of the municipality or city where the property is
situated, and if such property is worth more than four hundred pesos, such notice shall
also be published once a week for at least three consecutive weeks in a newspaper of
general circulation in the municipality or city.
14. The failure of the Defendants to comply with the foreclosure proceedings under
Section 3 of Act 3135, as amended, would render the foreclosure proceedings null and
void;9
PNB should be deemed to have admitted the foregoing averments, at least hypothetically, when it
filed a motion to dismiss the complaint. Its motion, however, assails the veracity of these
allegations, claiming that the foreclosure of the mortgaged properties was due to the non-payment
by the Encina spouses of their metal craft business loan and not their agricultural loan.
Nothing is more settled than the rule that in a motion to dismiss for failure to state a cause of
action, the inquiry is into the sufficiency, not the veracity, of the material allegations. If the
motion assails, directly or indirectly, the veracity of the allegations in the complaint, it is
improper to grant the motion upon the assumption that the averments in the motion are true and
those in the complaint are not. The sufficiency of the motion should be tested on the strength of
the allegations of fact contained in the complaint and no other. If the allegations of the complaint
are sufficient in form and substance but their veracity and correctness are assailed, it is incumbent
upon the court to deny the motion to dismiss and require the defendant to answer and go to trial to
prove his defense. The veracity of the assertions of the parties can be ascertained at the trial of the
case on the merits.10
Assuming the facts alleged in the complaint to be true, i.e., that the Encina spouses incurred an
agricultural loan which, under the Agricultural Modernization Act of 1997, has a long gestation
period and is not subject
to imposition of penalties, the trial court may render a valid judgment. Thus, we find that, at least
as regards the first cause of action, the complaint sufficiently establishes a cause of action. The
trial court should not have dismissed the same regardless of the defenses averred by PNB. It is
incumbent upon PNB to disprove the existence of the cause of action by evidence whether at the
trial or at the preliminary hearing of affirmative defenses.
The Court of Appeals, however, exacerbated the error by going beyond the issues in the appeal
and resolving the case on the basis only of the pleadings of the parties. Worse, the appellate court
reversed the trial court’s decision on the ground that the mechanism for setting the interest rate as
stipulated in the loan contract violated the principle of mutuality of contracts—an issue which
was never raised in the complaint nor even in the Encina spouses’ brief as plaintiffs-appellants.
PNB was obviously deprived of its right to be heard on this issue.
As borne by the records, the Encina spouses never challenged the validity of their loan and the
accessory contracts with PNB on the ground that they violated the principle of mutuality of
contracts in view of the provision therein that the interest rate shall "be set by management."
Their only contention concerning the interest rate was that the charges imposed by the bank
violated the Usury Law. This was the essence of the second cause of action alleged in the
complaint.
It should be definitively ruled in this regard that the Usury Law had been rendered legally
ineffective by Resolution No. 224 dated 3 December 1982 of the Monetary Board of the Central
Bank, and later by Central Bank Circular No. 905 which took effect on 1 January 1983 and
removed the ceiling on interest rates for secured and unsecured loans regardless of maturity. The
effect of these circulars is to allow the parties to agree on any interest that may be charged on a
loan. The virtual repeal of the Usury Law is within the range of judicial notice which courts are
bound to take into account.11 After all, the fundamental tenet is that the law is deemed part of the
contract.12 Thus, the trial court was correct in ruling that the second cause of action was without
basis.
In any event, the Court of Appeals ruled that even if there was no stipulated interest rate, the
mortgage itself remained valid. If that is so, the foreclosure proceedings cannot be invalidated
based solely on the alleged violation of the principle of mutuality. The appellate court held:
The promissory notes and the real estate mortgages however remain valid even assuming
arguendo that there was no stipulated interest rate that was agreed upon. The obligation
of plaintiffs-appellants ENCINA to pay the principal loan is nevertheless valid even if the
interest is void. This is so because a contract of loan should be divided into two parts: (1)
the principal and (2) the accessory stipulations – the principal one is to pay the debt and
the accessory stipulation is to pay interest thereon. The two stipulations are divisible and
the principal can still stand without the stipulation on the interest. The prestation of the
debtor to pay the principal debt, which is the cause of the contract, is not illegal. The
illegality lies only in the failure to stipulate or agree on the interest – leaving it to only
one of the parties to fix or determine. Being separable, only the interest unilaterally
fixed by one party should be deemed void, which cannot be interpreted to mean
forfeiture even of the principal, for this would unjustly enrich the borrower at the expense
of the lender.
Plaintiffs-appellants ENCINA freely and voluntarily agreed to the provisions in regard to
repayment of the principal when they affixed their signatures thereto. Thus, the said
mortgage contract binds them because Article 1159 of the New Civil Code provides that
obligations arising from contracts have the force of law between the contracting parties.
Since the promissory notes and the real estate mortgage are valid and only the unilaterally
imposed interest rates are wholly void, plaintiffs-appellants ENCINA have still to be
directed to pay defendant-appellee PNB the principal amount of the loan which remains
valid with interest at the legal rate of 12% per annum from the date the loan was granted
up to full payment, less payments already made, within ninety (90) days from the finality
of the decision, otherwise, the defendant-appellee PNB shall be entitled to foreclose the
mortgaged property and sell the same at public auction to satisfy the loan.(Emphasis not
ours)13
Curiously, even as they assert that the principle of mutuality was violated by the failure to
stipulate an interest rate, the Encina spouses concurred with the appellate court and even
reproduced verbatim the latter’s discussion on the validity of the promissory notes and real estate
mortgages,14 effectively admitting that these contracts are binding on them.
As regards the third cause of action, we deem the allegations in the complaint groundless as well.
The complaint merely reproduced the provision of Act 3135 which the Encina spouses claim
PNB had violated but failed to state the ultimate facts constituting such violation. The statement
of a mere conclusion of law renders a complaint vulnerable to a motion to dismiss on the ground
of failure to state a cause of action.15
In sum, in view of the factual issues raised by PNB in its motion to dismiss, the just and fair
resolution of the present controversy demands further proceedings in the RTC with regard to the
first cause of action mentioned in the complaint. We shall refrain from taking them up in this
Decision.
WHEREFORE, premises considered, the petition is GRANTED IN PART. The Decision of the
Court of Appeals dated 15 May 2005 and its Resolution dated 4 August 2006 are REVERSED
and SET ASIDE. This case is ordered REMANDED to the court of origin which is directed to
resolve the same with dispatch only with respect to the first cause of action alleged in the
Complaint. Costs against petitioner.
SO ORDERED.
DANTE O. TINGA
Associate Justice
WE CONCUR:
LEONARDO A. QUISUMBING
Associate Justice
Chairperson
ANTONIO T. CARPIO CONCHITA CARPIO MORALE
Associate Justice Associate Justice
PRESBITERO J. VELASCO, JR.
Associate Justice
ATTESTATION
I attest that the conclusions in the above Decision were reached in consultation before the case
was assigned to the writer of the opinion of the Court’s Division.
LEONARDO A. QUISUMBING
Associate Justice
Chairperson, Second Division
CERTIFICATION
Pursuant to Section 13, Article VIII of the Constitution, and the Division Chairperson’s
Attestation, it is hereby certified that the conclusions in the above Decision were reached in
consultation before the case was assigned to the writer of the opinion of the Court’s Division.
REYNATO S. PUNO
Chief Justice
