The Supreme Court has clarified that a buyer’s issuance of a worthless check to pay for property constitutes a substantial breach of contract, entitling the seller to rescind the sale. Even if initial consent to the sale wasn’t fraudulent, the subsequent fraudulent act during the consummation phase justifies rescission, allowing the seller to recover the property. This ruling protects sellers from buyers who fail to fulfill their payment obligations after a sale has been perfected.

Dishonored Promises: Can a Bounced Check Undo a Land Deal?

In this case, the Spouses Tongson agreed to sell their land to Emergency Pawnshop Bula, Inc. (EPBI), represented by Danilo Napala. The agreed price was P3,000,000. However, Napala later issued a check for P2,800,000 which bounced due to insufficient funds. The central legal question is whether this fraudulent act allows the Spouses Tongson to rescind the contract and recover their land.

The Spouses Tongson filed a complaint seeking to annul the contract, claiming Napala’s assurance that the check was funded induced them to sell. The trial court initially sided with the Spouses Tongson, but the Court of Appeals modified the decision, finding fraud but not enough to annul the contract. The Supreme Court then stepped in to clarify the nuances of fraud in contract law, particularly its impact on real estate transactions.

The Supreme Court distinguished between causal fraud (dolo causante) and incidental fraud (dolo incidente). Causal fraud, under Article 1338 of the Civil Code, occurs when one party’s insidious words or machinations induce the other to enter a contract they otherwise wouldn’t have agreed to. This type of fraud vitiates consent, making the contract voidable. However, the Court found that Napala’s misrepresentation didn’t constitute causal fraud because the Spouses Tongson had already agreed to the sale before the check was issued.

“Under Article 1338 of the Civil Code, there is fraud when, through insidious words or machinations of one of the contracting parties, the other is induced to enter into a contract which, without them, he would not have agreed to. In order that fraud may vitiate consent, it must be the causal (dolo causante), not merely the incidental (dolo incidente), inducement to the making of the contract.”

Despite the absence of causal fraud, the Supreme Court recognized that Napala’s actions constituted fraud in a general sense. By issuing a worthless check and assuring the Spouses Tongson that it was funded, Napala made a false representation of fact. This fraud occurred during the consummation stage of the contract, when both parties were supposed to fulfill their obligations. The court then referenced the three stages of a contract as explained in Swedish Match, AB v. Court of Appeals:

“In general, contracts undergo three distinct stages, to wit: negotiation; perfection or birth; and consummation. Negotiation begins from the time the prospective contracting parties manifest their interest in the contract and ends at the moment of agreement of the parties. Perfection or birth of the contract takes place when the parties agree upon the essential elements of the contract. Consummation occurs when the parties fulfill or perform the terms agreed upon in the contract, culminating in the extinguishment thereof.”

The court emphasized that the Spouses Tongson had fulfilled their obligation by executing the Deed of Sale and transferring the title to EPBI. Napala, however, failed to fulfill his obligation to pay the full purchase price. This failure, compounded by the fraudulent issuance of a worthless check, constituted a substantial breach of contract. This breach entitled the Spouses Tongson to rescind the contract under Article 1191 of the Civil Code:

“Article 1191. The power to rescind obligations is implied in reciprocal ones, in case one of the obligors should not comply with what is incumbent upon him.

The injured party may choose between the fulfillment and the rescission of the obligation, with payment of damages in either case. He may also seek rescission, even after he has chosen fulfillment, if the latter should become impossible.”

Rescission, as outlined in Article 1385 of the Civil Code, requires both parties to return what they received under the contract. The Spouses Tongson must return the initial payment of P200,000 (less the costs of suit), and EPBI must reconvey the property to the Spouses Tongson. The Court also noted the discrepancy in the Deed of Absolute Sale, which indicated a selling price of only P400,000 instead of the actual P3,000,000. This undervaluation defrauded the government of taxes, prompting the Court to direct that the Bureau of Internal Revenue (BIR) be informed of the decision.

Regarding damages, the trial court had awarded moral and exemplary damages to the Spouses Tongson, which the Court of Appeals reduced. The Supreme Court affirmed the Court of Appeals’ reduced awards, citing Article 2220 of the Civil Code, which allows for moral damages in cases of breach of contract where the defendant acted fraudulently or in bad faith. Article 2232 further allows for exemplary damages in contracts where the defendant acted in a wanton, fraudulent, reckless, oppressive, or malevolent manner.

What was the key issue in this case?	The key issue was whether the issuance of a worthless check by the buyer constituted a breach of contract that would allow the seller to rescind the sale of land.
What is causal fraud (dolo causante)?	Causal fraud is when one party deceives the other into entering a contract they would not have otherwise agreed to. This type of fraud invalidates consent.
What is incidental fraud (dolo incidente)?	Incidental fraud refers to misrepresentations or deceit that are not the primary reason for entering into the contract. It only obliges the person employing it to pay damages.
What are the three stages of a contract?	The three stages are negotiation, perfection (or birth), and consummation. Negotiation involves the initial discussions, perfection is when the parties agree on essential terms, and consummation is when the parties fulfill their obligations.
What is rescission?	Rescission is a legal remedy that cancels a contract and restores the parties to their original positions as if the contract never existed.
What is a substantial breach of contract?	A substantial breach is a significant failure to perform a key obligation under the contract, which justifies the other party in terminating the agreement.
What is the effect of rescission?	Rescission requires both parties to return what they received under the contract, including the property and the price paid, along with any fruits or interest.
What happens to the taxes owed if the selling price was undervalued?	The BIR is notified to investigate and take appropriate action to collect the correct amount of taxes due on the sale.
What are moral damages?	Moral damages are awarded to compensate for mental anguish, anxiety, and suffering resulting from a wrong act or breach of contract.
What are exemplary damages?	Exemplary damages are awarded to punish a wrongdoer for their conduct and to deter others from similar actions.

This case underscores the importance of fulfilling contractual obligations in good faith. The Supreme Court’s decision provides a clear path for sellers to rescind contracts when buyers engage in fraudulent behavior during the consummation phase, ensuring fairness and upholding the integrity of real estate transactions.

For inquiries regarding the application of this ruling to specific circumstances, please contact ASG Law through contact or via email at frontdesk@asglawpartners.com.

Disclaimer: This analysis is provided for informational purposes only and does not constitute legal advice. For specific legal guidance tailored to your situation, please consult with a qualified attorney.
Source: Spouses Carmen S. Tongson vs Emergency Pawnshop Bula, Inc., G.R. No. 167874, January 15, 2010