In Ruby Shelter Builders and Realty Development Corporation (G.R. No. 217368, August 5, 2024), the Supreme Court reaffirmed the prohibition against pactum commissorium. While lenders may acquire properties pledged as loan collateral, ownership cannot be automatically transferred to them to protect borrowers from losing properties that may exceed the value of their debt.
“Not all instances of alienation of mortgage property by the debtor in favor of the creditor in the event of failure to timely pay the obligation will be declared void for being pactum commissorium. The prohibition does not extend to a mutual agreement between the debtor and the creditor that the property subject of the mortgage is sold to the latter to extinguish the obligation.”
The Court explained that pactum commissorium arises when (1) a property is used as collateral for a loan, and (2) the loan agreement includes a clause that automatically transfers ownership of the collateral to the lender if the borrower defaults on the loan.
However, the Court clarified that this prohibition applies only to automatic transfers of ownership. Borrowers are still free to voluntarily sell their collateral to lenders as repayment.
In fact, in this case, the real estate corporation had entered into a separate agreement to sell its properties to the lenders in lieu of repaying the loan. The Court ruled that this was not an automatic transfer and, therefore, did not violate the ban on pactum commissorium.
