Key Takeaway: The Supreme Court Upholds the Validity of Forfeiture Clauses in Rescinded Contracts

Heirs of Mary Lane R. Kim v. Jasper Jason M. Quicho, G.R. No. 249247, March 15, 2021

Imagine investing in a business venture, only to find that your partner fails to fulfill their end of the bargain. You’re left wondering about the fate of the money you’ve already paid. This is precisely the scenario faced by the heirs of Mary Lane R. Kim, who entered into a contract to sell a portable crusher and lease a parcel of land to Jasper Jason M. Quicho. When Quicho failed to pay the remaining balance, the heirs sought to rescind the contract and retain the payments as stipulated in their agreement. The central legal question in this case was whether the heirs could legally enforce the forfeiture clause despite the rescission of the contract.

In this case, the Supreme Court of the Philippines had to determine the enforceability of a forfeiture clause in a rescinded contract, and whether the payments made by the buyer could be retained by the seller as rentals. The Court’s decision has significant implications for how contracts are interpreted and enforced in the country.

Legal Context: Understanding Rescission and Forfeiture Clauses

Rescission, as provided under Article 1191 of the Civil Code of the Philippines, is a remedy available to parties in reciprocal obligations when one party fails to comply with their obligations. It aims to restore the parties to their original positions before the contract was made. However, the principle of mutual restitution, which requires both parties to return what they have received, often comes into play upon rescission.

A forfeiture clause, on the other hand, is a contractual stipulation that allows one party to retain payments made by the other in case of breach. This clause serves as a form of liquidated damages, agreed upon by the parties to compensate for potential losses. The Court has recognized the validity of such clauses in cases like Laperal v. Solid Homes, Inc. and Philippine Economic Zone Authority v. Pilhino Sales Corporation, where it was held that rescission does not negate the enforceability of a forfeiture clause.

The Civil Code also provides under Article 1482 that earnest money, which is often given in contracts to sell, can be forfeited if the buyer fails to proceed with the sale without fault on the part of the seller. This concept is crucial in understanding the Court’s decision in the Kim case, as it relates to the opportunity cost borne by the seller.

Case Breakdown: The Journey of Heirs of Mary Lane R. Kim v. Jasper Jason M. Quicho

Mary Lane R. Kim owned a 250-ton portable crusher and a five-hectare parcel of land where the crusher was installed. In 2011, Jasper Jason M. Quicho approached Kim with a proposal to buy the crusher and lease the land to start a crushing plant business. They executed a Deed of Conditional Sale and a Contract of Lease, with the total purchase price set at P18,000,000.00, payable in installments.

Quicho paid P9,000,000.00 but failed to pay the remaining balance despite demands from Kim. This led to Kim sending a Notice of Rescission in 2013. When Quicho refused to vacate the property, Kim filed a complaint for rescission in the Regional Trial Court (RTC) of Olongapo City.

The RTC ruled in favor of Kim, declaring the contracts rescinded and ordering Quicho to surrender the property. However, the Court of Appeals (CA) modified the decision, requiring Kim’s heirs to return the P9,000,000.00 paid by Quicho, citing the principle of mutual restitution.

The Supreme Court, in its decision, emphasized the validity of the forfeiture clause in the contract. The Court stated, “Although rescission repeals the contract from its inception, it does not disregard all the consequences that the contract has created.” It further noted, “One such consequence that remains is the validity of the forfeiture or penalty clause stipulated by the parties in a contract.“

The Court also considered the concept of earnest money, noting that the payments made by Quicho could be seen as compensation for the opportunity cost borne by Kim’s heirs. The decision concluded, “as a general rule, the rescission of a contract under Article 1191 of the Civil Code will result in the mutual restitution of the benefits which the parties received, except in the following instances: 1) when there is an express stipulation to the contrary by way of a forfeiture or penalty clause in recognition of the parties’ autonomy to contract; or 2) if the buyer was given possession or was able to use the property prior to transfer of title, where in such case, partial payments may be retained and considered as rentals by the seller to avoid unjust enrichment.“

Practical Implications: How This Ruling Affects Future Contracts

This ruling reaffirms the importance of carefully drafted forfeiture clauses in contracts. Businesses and individuals entering into agreements should ensure that such clauses are clear and enforceable, as they can serve as a vital tool for protecting their interests in case of breach.

For property owners and sellers, this decision highlights the potential to retain payments as rentals if the buyer has used the property before full payment. This can prevent unjust enrichment and compensate for the opportunity cost of not being able to use or sell the property to others.

Key Lessons:

• Ensure that contracts include clear forfeiture or penalty clauses to protect against non-compliance.
• Understand the implications of earnest money and how it can be used to compensate for opportunity costs.
• Be aware that rescission does not automatically negate all contractual stipulations, especially those related to damages and penalties.

Frequently Asked Questions

What is rescission under Philippine law?

Rescission is a legal remedy available when one party fails to comply with their obligations in a reciprocal contract. It aims to restore the parties to their original positions before the contract was made.

Can a forfeiture clause be enforced after a contract is rescinded?

Yes, the Supreme Court has ruled that a forfeiture clause remains enforceable even after rescission, as it represents the parties’ agreement on damages in case of breach.

What is the significance of earnest money in a contract to sell?

Earnest money serves as a commitment from the buyer and can be forfeited if the sale does not proceed without fault on the part of the seller. It compensates the seller for the opportunity cost of reserving the property.

How can partial payments be considered as rentals?

If the buyer has used the property before full payment, partial payments can be converted into rentals to avoid unjust enrichment and compensate the seller for their inability to use the property.

What should parties consider when drafting contracts?

Parties should carefully draft forfeiture clauses and consider the implications of earnest money to protect their interests in case of breach.

ASG Law specializes in contract law and property disputes. Contact us or email hello@asglawpartners.com to schedule a consultation.