In Federal Builders, Inc. vs. Foundation Specialists, Inc., the Supreme Court clarified the appropriate interest rate for breaches of contract that do not involve a loan or forbearance of money. The Court held that in construction disputes, where one party fails to fulfill its contractual obligations, the applicable interest rate is 6% per annum, aligning with obligations not constituting loans. This ruling impacts how damages are calculated in construction contract breaches, ensuring fair compensation without unjustly penalizing defaulting parties beyond the actual cost of service.

Construction Contract Disputes: Who Bears the Cost of Imperfect Work?

This case arose from a subcontracting agreement between Federal Builders, Inc. (FBI) and Foundation Specialists, Inc. (FSI) for the construction of the diaphragm wall, capping beam, and guide walls of the Trafalgar Plaza in Makati City. FSI filed a complaint against FBI for unpaid billings, claiming that FBI refused to pay despite completing 97% of the contracted works. FBI countered that FSI had only completed 85% of the work, failing to meet the required specifications and abandoning the job site, leading to project delays and additional costs for remedial work.

The Regional Trial Court (RTC) ruled in favor of FSI, ordering FBI to pay the unpaid billings, the cost of undelivered cement, attorney’s fees, and the cost of the suit. The Court of Appeals (CA) affirmed the RTC’s decision with modifications, deleting the award for undelivered cement and reducing the attorney’s fees. Both parties then appealed to the Supreme Court, each contesting different aspects of the CA’s decision. The Supreme Court consolidated the cases to resolve the disputes over unpaid billings, interest rates, and liability for alleged defects in FSI’s work.

The central issue before the Supreme Court was whether FBI was justified in refusing to pay FSI for the remaining billings, given the alleged defects in FSI’s construction work and whether the interest rate imposed on the unpaid amount was correct. FBI argued that the diaphragm wall constructed by FSI was defective and out-of-specifications, requiring FBI to redo the work at its own expense. Additionally, FBI contested the imposition of a 12% legal interest rate from August 30, 1991, claiming that the agreement was not a “loan or forbearance of money.” The Supreme Court examined the factual findings of the lower courts and the terms of the construction agreement to determine the validity of FBI’s claims.

The Supreme Court affirmed the lower courts’ findings that FSI had substantially completed its obligations under the contract. The Court noted that the alleged defects and non-completion were attributable to FBI’s own failures, such as the non-delivery of cement as agreed upon. The Court emphasized the principle that factual findings of the trial court, when affirmed by the appellate court, are generally conclusive, absent specific exceptions such as contradictory findings or misappreciation of facts. The court cited Malayan Insurance Co., Inc. v. Philippines First Insurance Co., Inc., G.R. No. 184300, July 11, 2012, highlighting the high degree of respect accorded to these factual findings.

The Supreme Court highlighted specific instances where FBI’s actions hindered FSI’s performance, reinforcing the lower courts’ conclusions. For example, FSI had finished the construction of the guide wall and diaphragm wall by March 8, 1991, but could not proceed with the capping beam due to FBI’s failure to deliver the necessary cement. Furthermore, the Court pointed out that the misalignment issues in the diaphragm wall were anticipated by both parties, as evidenced by the inclusion of specific provisions in the agreement to address such possibilities. This acknowledgement underscored the shared understanding of potential challenges and the allocation of responsibilities for resolving them.

Addressing the issue of interest rates, the Supreme Court found merit in FBI’s argument that the 12% interest rate was inappropriate. Citing the landmark case of Eastern Shipping Lines, Inc. v. Court of Appeals, G.R. No. 97412, July 12, 1994, the Court differentiated between obligations involving a loan or forbearance of money and those arising from other types of contracts. For obligations not constituting a loan or forbearance, the Court stated that interest on the amount of damages awarded may be imposed at the discretion of the court at a rate of 6% per annum.

The Court further clarified this point by referring to the Monetary Board of the Bangko Sentral ng Pilipinas (BSP-MB) Circular No. 799 and the case of Nacar v. Gallery Frames, G.R. No. 189871, August 13, 2013. The circular specified that in the absence of stipulation, the rate of interest for obligations breached that consist of payment of a sum of money should be 6% per annum from default. The Court emphasized that the new rate should be applied prospectively and not retroactively.

The ruling clarified the definition of “forbearance of money, goods or credits,” explaining that it refers to arrangements where a person acquiesces to the temporary use of his money, goods, or credits pending the happening of certain events or fulfillment of certain conditions. In this case, the agreement between FBI and FSI was for the performance of construction services, not a loan or forbearance of money. The Court supported its decision by referencing similar jurisprudence where a 6% interest rate was applied in cases involving breaches of construction contracts and other service agreements.

The Supreme Court ultimately ruled that the interest rate should be reduced to 6% per annum, aligning with the nature of the obligation as a contract for services rather than a loan. The Court affirmed the RTC’s decision that the interest should run from August 30, 1991, the date FSI made an extrajudicial demand for payment. This decision provided clarity on the proper application of interest rates in construction contract disputes and reinforced the importance of adhering to contractual obligations.

FAQs

What was the key issue in this case?	The key issue was determining the correct interest rate applicable to unpaid construction billings and whether the contractor was liable for rectifying alleged defects in the work. The court clarified that the applicable interest rate for construction contract breaches is 6% per annum, not the 12% applied to loans or forbearances of money.
What did Federal Builders, Inc. (FBI) argue?	FBI argued that Foundation Specialists, Inc. (FSI) did not complete the work according to specifications, causing FBI to incur additional costs for remedial work. They also argued that the 12% interest rate was inappropriate as the agreement was not a loan or forbearance of money.
What did Foundation Specialists, Inc. (FSI) argue?	FSI argued that they had completed 97% of the contracted work and were entitled to the unpaid billings. They also argued that FBI’s failure to provide necessary materials, like cement, hindered their ability to complete the project fully.
How did the Supreme Court rule on the issue of defective work?	The Supreme Court upheld the lower courts’ findings that the alleged defects in FSI’s work were attributable to FBI’s own failures, such as not providing the necessary materials. Therefore, FBI was not justified in refusing to pay for the work completed by FSI.
What is the difference between interest for loan and non-loan obligations?	Interest for loan obligations (or forbearance of money) typically follows a higher rate, while non-loan obligations, such as service contracts, are subject to a lower interest rate. This distinction is based on whether the agreement involves the use of money or merely the provision of a service.
What was the basis for determining the applicable interest rate?	The applicable interest rate was determined based on the nature of the obligation; since the contract was for construction services and not a loan, the rate was set at 6% per annum. This was in line with established jurisprudence and circulars from the Bangko Sentral ng Pilipinas.
What is meant by ‘forbearance of money, goods, or credits’?	‘Forbearance’ refers to arrangements where a person allows the temporary use of their money, goods, or credits, pending specific events or conditions. It differs from contracts for services, where one party agrees to perform a specific task.
What date did the interest begin to accrue?	The interest began to accrue from August 30, 1991, the date when FSI extrajudicially demanded payment from FBI, as per the RTC’s ruling and affirmed by the Supreme Court.
Did the Supreme Court change the interest rate during the period covered by the dispute?	Yes, the Supreme Court modified the interest rate to 6% per annum to align with the BSP-MB Circular No. 799 and the principles set forth in Nacar v. Gallery Frames. This change was applied prospectively from July 1, 2013.

The Supreme Court’s decision in this case underscores the importance of clear contractual obligations and adherence to agreed-upon terms in construction projects. It also clarifies the appropriate interest rates for breaches of contract that do not involve loans, providing valuable guidance for future disputes. This ensures fair compensation without unjustly penalizing defaulting parties beyond the actual cost of service.

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: Federal Builders, Inc. vs. Foundation Specialists, Inc., G.R. No. 194507, September 8, 2014