Escalation clauses in loan contracts

1
Persida Acosta

Persida Acosta

Dear PAO,

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My father is planning to get a loan from one of the banks in our province, but he is hesitant to push through because there is a clause in the agreement being given to him by the bank that states that the bank is authorized to increase the interest rate of the loan without the need for notifying him. Is that clause even valid? Your soonest advice will be truly appreciated. Thank you and more power.

Leila

Dear Leila,

Parties to contracts are given wide latitude to stipulate the terms and conditions which will govern them. They may specify the terms they desire or which they may deem convenient, as long as the terms and conditions agreed to by them are not contrary to law, morals, good customs, public order or public policy (Article 1306, New Civil Code of the Philippines).

The same is true insofar as stipulations involving the increase in the interest rate in monetary obligations. In fact, this kind of stipulation is more commonly known as escalation clauses. In a long line of decisions, the Supreme Court has time and again recognized the validity of escalation clauses. In the case of Juico v. China Banking Corporation (695 SCRA 520), the Court declared that it finds “x x x nothing inherently wrong with escalation clauses which are valid stipulations in commercial contracts to maintain fiscal stability and to retain the value of money in long term contracts. Hence, such stipulations are not void per se. x x x”

However, in the same case, the Supreme Court emphasized that if the terms or conditions of the agreement clearly demonstrate that the creditor has the sole discretion of determining when to increase the interest rate and the rate to be increased, such agreement or contract may be considered void and without legal effect. As held, “x x x Nevertheless, an escalation clause “which grants the creditor an unbridled right to adjust the interest independently and upwardly, completely depriving the debtor of the right to assent to an important modification in the agreement” is void. A stipulation of such nature violates the principle of mutuality of con–tracts. Thus, this Court has previously nullified the unilateral determination and imposition by creditor banks of increases in the rate of interest provided in loan contracts. x x x”

Accordingly, the clause in the agreement that is being given to your father may be considered invalid. Although, it will be more prudent on his part to carefully examine first the entire provisions of the said agreement to com–pletely determine the validity or invalidity of the terms thereof. If his understanding of all the stipulations of the agreement would lead him to the conclusion that the bank will have the sole discretion of increasing the interest rate without the need of securing your father’s approval, then he should reconsider whether or not to continue securing the loan from the said bank.

We hope that we were able to answer your query. Please be reminded that this advice is based solely on the facts you have narrated and our appreciation of the same. Our opinion may vary when other facts are changed or elaborated.

Editor’s note: Dear PAO is a daily column of the Public Attorney’s Office. Questions for Chief Acosta may be sent to dearpao@manilatimes.net

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1 Comment

  1. Atty. Roslee M. Formoso on

    Dear PAO Precy,

    HINT, Central Bank is the regulatory body that regulates all banking activities. Check with CB hint- fixed.