Key Takeaway: The Supreme Court Declares 3% Monthly Interest Rate Unconscionable

Megalopolis Properties, Inc. (now, Kaizen Builders, Inc.), Geraldine Fajardo and Spouses Hilario and Cecille Apostol v. D’Nhew Lending Corporation, Jonathan Del Prado and Pradeep “Paul” Lalwani, G.R. No. 243891, May 07, 2021

Imagine borrowing money to grow your business, only to find yourself trapped in a cycle of debt due to an exorbitant interest rate. This is the reality faced by many borrowers who agree to high interest rates without fully understanding the long-term implications. In the case of Megalopolis Properties, Inc., the Supreme Court of the Philippines ruled on the validity of a 3% monthly interest rate on a loan, highlighting the issue of unconscionable interest rates. The central question was whether such a rate was excessive and unfair, and the Court’s decision has far-reaching implications for borrowers and lenders alike.

The case involved Megalopolis Properties, Inc., which obtained a loan from D’Nhew Lending Corporation with a monthly interest rate of 3%. As the loan payments became challenging, the parties restructured the loan under the same terms. However, when the borrowers sought to nullify the interest rate, the courts had to determine whether the rate was valid or unconscionable.

Understanding Unconscionable Interest Rates

Under Philippine law, the concept of unconscionability is crucial when assessing the fairness of contractual terms, including interest rates. The Civil Code of the Philippines, specifically Article 1956, states that “no interest shall be due unless it has been expressly stipulated in writing.” However, the law also provides that interest rates must be reasonable and not contrary to morals or public policy.

The term “unconscionable” refers to terms that are so one-sided or oppressive that they shock the conscience. In the context of loans, an interest rate is considered unconscionable if it is excessively high and leads to unjust enrichment of the lender at the expense of the borrower. The Supreme Court has established that while parties are free to agree on interest rates, any rate that is far-removed from what is considered fair and reasonable can be invalidated.

For example, if a borrower takes out a loan at a 3% monthly interest rate, the compounded effect over time can lead to a debt that is many times the original amount borrowed. This was the situation faced by Megalopolis Properties, where the interest rate would have increased their obligation by 72% immediately upon assumption.

The Journey of Megalopolis Properties, Inc.

Megalopolis Properties, Inc. initially borrowed P4,000,000 from D’Nhew Lending Corporation at a 3% monthly interest rate. When the first few payments were made using postdated checks, which were dishonored due to insufficient funds, the borrowers paid in cash and requested a restructuring of the loan. The restructured loan maintained the 3% monthly interest rate, with the unpaid interest capitalized into the principal.

As the borrowers struggled to keep up with payments, they filed a complaint seeking to nullify the interest rate, arguing it was excessive and unconscionable. The Regional Trial Court (RTC) upheld the interest rate but found that there was an overpayment from the foreclosure of the mortgaged property. The Court of Appeals (CA) affirmed the RTC’s decision on the interest rate but set aside the order to return the overpayment.

The Supreme Court, however, found the 3% monthly interest rate to be unconscionable. The Court reasoned that:

“The imposition of an unconscionable rate of interest on a money debt, even if knowingly and voluntarily assumed, is immoral and unjust. It is tantamount to a repugnant spoliation and an iniquitous deprivation of property, repulsive to the common sense of man.”

The Court further clarified that:

“In determining whether the rate of interest is unconscionable, the mechanical application of pre-established floors would be wanting. What is more crucial is a consideration of the parties’ contexts.”

As a result, the Court reduced the interest rate to the prevailing legal rate of 12% per annum at the time the loan was contracted.

Practical Implications and Key Lessons

This ruling sets a precedent for future cases involving high interest rates. Borrowers should be cautious when agreeing to interest rates and seek legal advice to understand the long-term implications. Lenders must ensure that their interest rates are not only agreed upon but also reasonable and justifiable under prevailing market conditions.

Key Lessons:

• Understand the Terms: Always read and understand the terms of your loan agreement, especially the interest rate and its compounding effect.
• Seek Legal Advice: Consult with a lawyer before agreeing to high interest rates to ensure they are not unconscionable.
• Negotiate: If possible, negotiate the interest rate to a more reasonable level, especially if the loan is for a long term.

Frequently Asked Questions

What is considered an unconscionable interest rate?

An interest rate is considered unconscionable if it is excessively high and leads to unjust enrichment of the lender at the borrower’s expense. The Supreme Court has invalidated rates that are significantly higher than the prevailing legal rate.

Can I challenge the interest rate on my loan?

Yes, if you believe the interest rate is unconscionable, you can file a legal challenge. It’s important to gather evidence and seek legal advice to support your case.

What should I do if I’ve already agreed to a high interest rate?

If you’ve already agreed to a high interest rate, consult with a lawyer to explore your options. You may be able to negotiate a lower rate or challenge the validity of the rate in court.

How can I protect myself from high interest rates?

Always read the loan agreement carefully, understand the interest rate and its impact over time, and seek legal advice before signing. Be wary of rates that seem too high compared to market standards.

What are the legal rates of interest in the Philippines?

The legal rate of interest in the Philippines is 12% per annum for loans contracted before July 1, 2013, and 6% per annum for those contracted from July 1, 2013 onwards, unless otherwise stipulated in writing.

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