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PCI Leasing and Finance Inc v. Trojan Metal Industries Inc., Walfrido Dizon, Elizabeth Dizon, and John Doe (2010) Carpio, J. Trojan loaned from PCI but instead of a simple loan agreement, they entered into an agreement that PCI (creditor) was to buy some movables of Trojan (debtor) and then lease it back to Trojan. Trojan then would pay monthly rentals to PCI. After a while, Trojan used the leased properties as collateral for another loan from another company.PCI considered this as a violation of their lease and demanded from Trojan the balance of the rental payments. RTC issued a writ of replevin and said that the law between the parties must be that in the contract eventhough it unjustly enriched the creditor. PCI got the properties back and sold the movables to a third party. Trojan says the agreement was actually a loan secured by chattel mortgage, and not a sale with lease agreement.CA agreed and ordered PCI to return the excess payment (from the proceeds of the sale to the third party) to Trojan. Trojan loaned from PCI Leasing. PCI offered to buy various equipment Trojan owned (hydraulic press, powerpresses of different brands, clearing powerpress, lathe machine, milling machine, radial drill) Trojan agreed. o They executed deeds of sale, total amount: P2,865,070 Then they entered into a lease agreement: Trojan leased back the former equipments it owned. Trojan issued postdated checks representing 24 monthly installments. o Monthly rental for double action hydraulic press: P62,328 o Monthly rental for 5 powerpresses: P49,259 o Monthly rental for the lathe machine, milling machine, and redial drill: P22,205 Also pursuant to the lease agreement, Trojan gave PCI a guaranty deposit of P1,030,350. Such would serve as security for the timely performance of Trojans obligations under the lease agreement and would be automatically forfeited should Trojan return the leased equipment before the expiration of the lease. Trojans Pres and VP (Walfrido and Elizabeth Dizon) executed a Continuing Guaranty of Lease Obligations. Under the continuing guaranty, the Dizons agreed to immediately pay whatever obligations would be due PCI in case Trojan failed to meet its obligations. Trojan then used the leased equipment as temporary collateral to obtain a loan from another financing company. PCI considered this a violation of the lease agreement. (By this time, Trojans partial payment reached P1,717,091.) PCI sent a demand letter for the payment of the outstanding obligation. This demand remained unheeded. PCI filed a complaint against Trojan for recovery of sum of money and personal property with prayer for issuance of a writ of replevin. Trojans answer claimed that the sale with lease agreement was a mere scheme to facilitate the financial lease between PCI and Trojan. (In a simulated financial lease, property of the debtor would be sold to the creditor to be repaid through rentals; at the end of the lease period, the property sold would revert back to the debtor) o They prayed that they be allowed to reform the lease agreement to show the true agreement: which was a loan secured by a chattel mortgage RTC issued the writ + directed the sheriff to take custody of the leased equipment. o RTC ruled that the lease agreement must be presumed valid as the law between the parties even if some of it constituted unjust enrichment of PCI After which, PCI sold the leased equipment to a third party. Proceeds: P1,025,000. Trojan appealed to CA. CA reversed. o CA ruled that the sale with a lease agreement was in fact a loan secured by chattel mortgage. o Since PCI sold the equipment to a third party for P1,025,000 and Trojan paid PCI a guaranty deposit of P1,030,000, PCI now had P2,055,250, as against Trojans remaining obligation of P888,423.48, or an excess of P1,166,826.52, which should be returned to Trojan in accordance with Sec 14 of the Chattel Mortgage Law.

Issues/Held: Whether the sale with lease agreement was a financial lease or a loan secured by chattel mortgage --- Loan secured by chattel mortgage Whether PCI should refund Trojan the P1,166,826.52. --- YES PCI argument: That the transaction was a sale and leaseback financing arrangement where the client (debtor) sells movable property to a financing company (creditor), which then leases the same back to the client. That it was not financial leasing, which contemplates extension of credit to assist a buyer in acquiring movable property which the buyer can use and eventually own. That the sale and leaseback arrangement is not contrary to law, morals, good customs, public order, or public policy. That the guaranty deposit should be forfeited in its favor, as provided in the lease agreement. Since it deals with a flagrant violation of the lease agreement. Trojan argument: That from the very beginning, transfer to PCI of ownership was never the intention. Under the lease agreement, the guaranty deposit would be forfeited if Trojan returned the leased equipment to PCI before the expiration of the lease agreement; thus, since Trojan never returned the leased equipment voluntarily, but through a writ of replevin, the guaranty deposit should not be forfeited. Ratio: Definition of financial lease agreement:

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Since the lease agreement was executed on April 1997, RA 5980 (Financing Company Act), governs what constitutes financial leasing. o LEASING refers to financial leasing which is a mode of extending credit through a non-cancelable contract under which the lessor (creditor) purchases or acquires at the instance of the lessee (debtor) movable property in consideration of the periodic payment by the lessee (debtor) of a fixed amount of money sufficient to amortize at least 70% of the purchase price or acquisition cost, including any incidental expenses and a margin of profit, over the lease period. o The contract shall extend over an obligatory period during which the lessee has the right to hold and use the leased property and shall bear the cost of repairs, maintenance, insurance, and preservation thereof, but with no obligation or option on the part of the lessee (debtor) to purchase the leased property at the end of the lease contract. The above definition gained statutory recognition with the enactment of RA 8556 (Financing Company Act of 1998) o FINANCIAL LEASING is a mode of extending credit through a non-cancelable lease contract under which the lessor (creditor) purchases or acquires, at the instance of the lessee (debtor) movable or immovable property in consideration of the periodic payment by the lessee (debtor) of a fixed amount of money sufficient to amortize at least 70% of the purchase price or acquisition cost, including any incidental expenses and a margin of profit over an obligatory period of not less than 2 years during which the lessee (debtor) has the right to hold and use the leased property with the right to expense the lease rentals paid to the lessor and bears the cost of repairs, maintenance, insurance and preservation, but with no obligation or option on his part to purchase the leased property from the owner-lessor (creditor) at the end of the lease contract. Thus, in a true financial leasing, whether under RA 5980 or RA 8556, a finance company purchases on behalf of a cash-strapped lessee (debtor) the equipment the lessee (debtor) wants to buy but, due to financial limitations, is incapable of doing so. The finance company then leases the equipment to the lessee (debtor) in exchange for the lessees (debtors) periodic payment of a fixed amount of rental.

Applied in this case, the transaction was not a financial leasing but a loan secured by a chattel mortgage. Trojan already owned the equipment before it transacted with PCI. Therefore, the transaction between the parties in this case cannot be deemed to be in the nature of a financial leasing as defined by law but simply a loan secured by the various equipment owned by Trojan. The facts here are analogous to those in Cebu Contractors v. CA: o Cebu Contractors wanted a loan from Makati. Makati Leasing agreed to extend financial assistance but instead of a loan with collateral, Makati Leasing induced Cebu Contractors to adopt a sale and leaseback scheme: several of Cebus equipment were made to appear as sold to Makati and then leased back to Cebu, which in turn paid lease rentals. The rentals were treated as installment payments to repurchase the equipment. o SC held that the transaction between Cebu and Makati was NOT a financial leasing, but simply a loan secured by a chattel mortgage. Where the client already owned the equipment but needed additional working capital and the finance company purchased such equipment with the intention of leasing it back to him, the lease agreement was simulated to disguise the true transaction that was a loan with security. The intention of the parties was NOT to enable the client to ACQUIRE and use the equipment, BUT to extend to him a LOAN. In Investors Finance Corporation v. CA: o A borrower came to IFC to secure a loan with his heavy equipment as collateral. The parties executed documents where IFC was made to appear as the owner of the equipment and the borrower as the lessee. As consideration for the lease, the borrower-lessee was to pay monthly amortizations over a period of 36 months. As security, the borrower-lessee also executed a continuing guaranty. o SC held that the transaction was NOT a true financial leasing because the INTENTION of the parties was NOT to enable the borrower-lessee to ACQUIRE and use the heavy equipement which already belonged to him, but to extend to him a LOAN to use as capital for his construction businesses. Lease agreement was SIMULATED to disguise the true transaction, which was a simple loan secured by heavy equipment owned by the borrowerlessee. o SC differentiated between a true financial leasing and a loan with mortgage in the guise of a lease: A financial leasing contemplates the extension of credit to assist a buyer in acquiring movable property which he can use and eventually own. If the movable property already belonged to the borrower-lessee, the transaction between the parties, was a loan with mortgage in the guise of a lease. NCC 1359 and 1362 provide: o Art. 1359. When, there having been a meeting of the minds of the parties to a contract, their true intention is not expressed in the instrument purporting to embody the agreement, by reason of mistake, fraud, inequitable conduct, or accident, one of the parties may ask for the reformation of the instrument to the end that such true intention may be expressed. o Art. 1362. If one party was mistaken and the other acted fraudulently or inequitably in such a way that the instrument does not show their true intention, the former may ask for the reformation of the instrument. Under NCC 1144, the prescriptive period for actions based on a written contract and for reformation of an instrument is 10 years. The right of action for reformation accrued from the date of execution of the lease agreement on April 8 1997. Trojan timely exercised its right of action when it filed an answer on February 14, 2000 asking for the reformation of the lease agreement. Had the true transaction been expressed in a proper instrument, it would have been a simple loan secured by a chattel mortgage, instead of a simulated financial leasing.

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Thus, upon Trojans default, PCI was entitled to seize the mortgaged equipment, not as owner but as creditor-mortgagee for the purpose of foreclosure. PCIs sale to a third party can be deemed in the exercise of its right to foreclose the chattel mortgage as creditor-mortgagee.

Reckoning of the amount of the principal obligation CA should have taken into account the proceeds of the sale to PCI, less the guaranty deposit paid by Trojan. After deducting payments made to PCI, the applicable interest should then be applied against the aggregate cash already in PCIs hands. PCI paid P2,865,070 to acquire the mortgaged equipment. Trojan then gave PCI a guaranty deposit of P1,030,350. Thus, the amount of the principal loan was P1,834,720. Deduct Trojan loan payments (P1,717,091) against the principal loan (P1,834,720 plus the applicable interest). Since PCI sold the mortgaged equipment for P1,025,000, the proceeds should be applied to offset the remaining balance on the principal loan plus applicable interest. However, the exact date of the sale of the mortgaged equipment, which is needed to compute the interest on the remaining balance of the principal loan, cannot be gleaned from the record. o Remand the case to the RTC for the computation of the total amount due from the date of demand on December 8, 1998 until the date of sale of the mortgaged equipment. Applicable interest In the absence of stipulation, the applicable interest due on the remaining balance of the loan is the legal rate of 12% per annum, computed from the date PCI sent a demand letter on December 8, 1998. No interest can be charged prior to this because Trojan was not yet in default prior to December 8. The interest due shall also earn legal interest from the time it is judicially demanded, pursuant to NCC 2212 (compounded interest): o Art. 2212. Interest due shall earn legal interest from the time it is judicially demanded, although the obligation may be silent upon this point. This provision has been incorporated in the comprehensive summary of existing rules on the computation of legal interest laid down in Eastern Shipping v. CA: 1. When an obligation is breached, and it consists in the PAYMENT OF SUM OF MONEY (a loan or forbearance of money), the interest due should be that which may have been STIPULATED in writing. a. INTEREST DUE shall itself EARN LEGAL INTEREST from the time it is JUDICIALLY DEMANDED. b. In the ABSENCE of stipulation, the rate of interest shall be 12% per annum to be computed FROM DEFAULT (from judicial or extrajudicial demand, subject to the provisions of NCC 1169) 2. When an obligation, NOT constituting a loan or forbearance of money, is breached, an interest on the amount of damages awarded may be imposed at the DISCRETION of the court at the RATE OF 6% per annum. a. NO interest shall be adjudged on UNLIQUIDATED claims or damages except when or UNTIL the demand can be established with reasonable certainty. b. Where the demand is ESTABLISHED, the interest shall BEGIN TO RUN from the time the CLAIM IS MADE judicially or extrajudicially (NCC 1169) c. When such certainty CANNOT be so reasonably established at the time the demand is made, the interest shall begin to run only from the date the JUDGMENT of the court is made. d. The actual base for the computation of legal interest shall be on the amount finally adjudged. 3. When the judgment of the court awarding a sum of money becomes final and executory, the rate of legal interest, whether the case falls under paragraph 1 or paragraph 2, above, shall be 12% per annum from FINALITY UNTIL its SATISFACTION, this interim period being deemed to be by then an equivalent to a FORBEARANCE of credit. The remaining balance of the principal loan must earn the legal interest of 12% per annum, which interest, as long as unpaid, also earns legal interest of 12% per annum, computed from the filing of the complaint on May 7, 1999. o TOTAL AMOUNT DUE = [principal partial payments made] + [interest + interest on interest], where o Interest = remaining balance x 12% per annum x no. of years from due date (8 December 1998 when demand was made) until date of sale to a third party o Interest on interest = interest computed as of the filing of the complaint on 7 May 1999 x 12% x no. of years until date of sale to a third party Refund to Trojan From the computed total should be deducted P1,025,000.00 (proceeds of the sale). The difference represents overpayment by Trojan, which the law requires PCI to refund. Sec 14 of the Chattel Mortgage Law: o Section 14. Sale of property at public auction; officers return; fees; disposition of proceeds. x x x The proceeds of such sale shall be applied to the payment, first, of the costs and expenses of keeping and sale, and then to the payment of the demand or obligation secured by such mortgage, and the residue shall be paid to persons holding subsequent mortgages in their order, and the balance, after paying the mortgages, shall be paid to the mortgagor or person holding under him on demand. This expressly entitles the debtor-mortgagor to the balance of the proceeds, upon satisfaction of the principal loan and costs. Prevailing jurisprudence holds that the Law bars the creditor-mortgagee from retaining the excess of the sale proceeds. Trojans right to the refund accrued from the time PCI received the proceeds of the sale. However, since Trojan never made a counterclaim or demand for refund due on the resulting overpayment, no interest applies on the amount of refund due.

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Nonetheless, the excess amount PCI must refund to Trojan is subject to interest at 12% per annum from finality of decision until fully paid.

Petition denied.