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EN BANC

G.R. No. L-22238 February 18, 1967

CLAVECILLIA RADIO SYSTEM, petitioner-appellant,


vs.
HON. AGUSTIN ANTILLON, as City Judge of the Municipal Court of Cagayan de Oro
City and NEW CAGAYAN GROCERY, respondents-appellees.

REGALA, J.:

SUMMARY:
New Cagayan Grocery
‘s complaint against the Clavecilla Radio System -> CFI - Cagayan de Oro

NCG: letter addressed to NCG, was filed at the CRS's Bacolod Branch Office for transmittal
thru its branch office at Cagayan de Oro - CRS omitted, in delivering the same to the NCG,
the word "NOT" between the words "WASHED" and "AVAILABLE," thus changing entirely
the contents and purport of the same and causing the said addressee to suffer damages.

REURTEL WASHED NOT AVAILABLE REFINED TWENTY FIFTY IF AGREEABLE SHALL


SHIP LATER REPLY POHANG

CRS’s motion to dismiss (no cause of action & venue improperly laid) -> CFI. DENIED.

CRS’s petition for prohibition with preliminary injunction praying that the City Judge,
Honorable Agustin Antillon, be enjoined from further proceeding with the case (improper
venue) -> CFI.

NCG’s motion to dismiss the petition -> CFI. - opposed by the CRS.

CFI DISMISSED THE PETITION FOR PROHIBITION WITH PRELIMINARY INJUNCTION


PRAYING THAT JUDGE ANTILLON BE ENJOINED FROM FURTHER PROCEEDING
WITH THE CASE. (Judge Antillon may proceed with thr case)
CFI
- CRS may be sued either in Manila (where it has its principal office) or in Cagayan de Oro
City (where it may be served, as in fact it was served, with summons through the Manager of
its branch office in said city).
- upheld the authority of the city court to take cognizance of the case.

CRS’s appeal - CA.


CRS: suit against it should be filed in Manila where it holds its principal office.

ISSUE: WON the summons may be served in the branch offices of a corporation

WON the case filed in Cagayan de Oro will propsper


HELD: NO
It is clear that the case for damages filed with the city court is based upon tort and not upon
a written contract. Section 1 of Rule 4 of the New Rules of Court, governing venue of actions
in inferior courts, provides in its paragraph (b) (3) that when "the action is not upon a written
contract, then in the municipality where the defendant or any of the defendants resides or
may be served with summons." (Emphasis supplied)

Settled is the principle in corporation law that the residence of a corporation is the
place where its principal office is established.​ Since it is not disputed that the ​Clavecilla
Radio System has its principal office in Manila, it follows that the suit against it may properly
be filed in the City of Manila.

Cohen vs. Benguet Commercial Co., Ltd:​that the term "may be served with summons" does
not apply when the defendant resides in the Philippines for, in such case, he may be sued
only in the municipality of his residence, regardless of the place where he may be found and
served with summons. As any other corporation, the Clavecilla Radio System maintains a
residence which is Manila in this case, and a person can have only one residence at a time.
The fact that it maintains branch offices in some parts of the country does not mean that it
can be sued in any of these places. ​To allow an action to be instituted in any place
where a corporate entity has its branch offices would create confusion and work
untold inconvenience to the corporation.

Court in Evangelista vs. Santos, et al.​:


the laying of the venue of an action is not left to plaintiff's caprice because the matter is
regulated by the Rules of Court. ​Applying the provision of the Rules of Court, the venue in
this case was improperly laid.

Disposition​: The order appealed from is therefore reversed, but without prejudice to the filing
of the action in Which the venue shall be laid properly. With costs against the
respondents-appellees.

FIRST DIVISION

[G.R. No. L-28398. August 6, 1975.]

COMMISSIONER OF INTERNAL REVENUE, Petitioner, v. JOHN L. MANNING, W.D.


McDONALD, E.E. SIMMONS and THE COURT OF TAX APPEALS, Respondents.

SYLLABUS

1. PRIVATE CORPORATIONS; SHARES OF STOCKS; TREASURY; SHARES. —


Treasury shares are stocks issued and fully paid for and re-acquired by the corporation
either by purchase, donation, forfeiture or other means. They are therefore issued shares,
but being in the treasury they do not have the status of outstanding shares. Consequently,
although a treasury share, not having been retired by the corporation re-acquiring it, may be
re-issued or sold again, such share, as long as it is held by the corporation as a treasury
share, participates neither in dividends, because dividends cannot be declared by the
corporation to itself, nor in the meetings of the corporations as voting stock, for otherwise
equal distribution of voting powers among stockholders will be effectively lost and the
directors will be able to perpetuate their control of the corporation though it still represent a
paid — for interest in the property of the corporation.

2. ID.; ID.; ID.; DECLARATION OF QUESTIONED SHARES AS TREASURY STOCK


DIVIDENDS, A NULLITY. — Where the manifest intention of the parties to the trust
agreement was, in sum and substance, to treat the shares of a deceased stockholder as
absolutely outstanding shares of said stockholder’s estate until they were fully paid. the
declaration of said shares as treasury stock dividend was a complete nullity and plainly
violative of public policy.

3. ID.; ID.; STOCK DIVIDEND PAYABLE ONLY FROM RETAINED EARNINGS. — A


stock dividend, being one payable in capital stock, cannot be declared out of outstanding
corporate stock, but only from retained earnings.

4. ID.; ID.; PURCHASE OF HOLDING RESULTING IN DISTRIBUTION OF EARNINGS


TAXABLE. — Where by the use of a trust instrument as a convenient technical device,
respondents bestowed unto themselves the full worth and value of a deceased stockholder’s
corporate holding acquired with the very earnings of the companies, such package device
which obviously is not designed to carry out the usual stock dividend purpose of corporate
expansion reinvestment, e.g., the acquisition of additional facilities and other capital budget
items, but exclusively for expanding the capital base of the surviving stockholders in the
company, cannot be allowed to deflect the latter’s responsibilities toward our income tax
laws. The conclusion is ineluctable that whenever the company parted with a portion of its
earnings "to buy" the corporate holdings of the deceased stockholders, it was in ultimate
effect and result making a distribution of such earnings to the surviving stockholders. All
these amounts are consequently subject to income tax as being, in truth and in fact, a flow of
cash benefits to the surviving stockholders.

5. ID.; ID.; ID.; COMMISSIONER ASSESSMENT BASED ON THE TOTAL


ACQUISITION COST OF THE ALLEGED TREASURY STOCK DIVIDENDS, ERROR. —
Where the surviving stockholders, by resolution, partitioned among themselves, as treasury
stock dividends, the deceased stockholder’s interest, and earnings of the corporation over a
period of years were used to gradually wipe out the holdings therein of said deceased
stockholder, the earnings (which in effect have been distributed to the surviving stockholders
when they appropriated among themselves the deceased stockholder’s interest), should be
taxed for each of the corresponding years when payments were made to the deceased’s
estate on account of his shares. In other words, the Tax Commissioner may not asses the
surviving stockholders, for income tax purposes, the total acquisition cost of the alleged
treasury stock dividends in one lump sum. However, with regard to payment made with the
corporation’s earnings before the passage of the resolution declaring as stock dividends the
deceased stockholder’s interest (while indeed those earnings were utilized in those years to
gradually pay off the value of the deceased stockholder’s holdings), the surviving
stockholders should be liable (in the absence of evidence that prior to the passage of the
stockholder’s resolution the contributed of each of the surviving stockholder rose
corresponding), for income tax purposes, to the extent of the aggregate amount paid by the
corporation (prior to such resolution) to buy off the deceased stockholder’s shares. The
reason is that it was only by virtue of the authority contained in said resolution that the
surviving stockholders actually, albeit illegally, appropriated and petitioned among
themselves the stockholders equity representing the deceased stockholder’s interest.

6. TAXATION; INCOME TAX; ASSESSMENT OF FRAUD PENALTY AND


IMPOSITION OF INTEREST CHARGES IN ACCORDANCE WITH LAW DESPITE NULLITY
OF RESOLUTION AUTHORIZING DISTRIBUTION OF EARNINGS. — The fact that the
resolution authorizing the distribution of earnings is null and void is of no moment. Under the
National Internal Revenue Code, income tax is assessed on income received from any
property, activity or service that produces income. The Tax Code stands as an indifferent,
neutral party on the matter of where the income comes from. The action taken by the
Commissioner of assessing fraud penalty and imposing interest charges pursuant to the
provisions of the Tax Code is in accordance with law.

SYNOPSIS

Under a trust agreement, Julius Reese who owned 24,700 shares of the 25,000 common
shares of MANTRASCO, and the three private respondents who owned the rest, at 100
shares each, deposited all their shares with the Trustees. The trust agreement provided that
upon Reese’s death MANTRASCO shall purchase Reese’s shares. The trust agreement
was executed in view of Reese’s desire that upon his death the Company would continue
under the management of respondents. Upon Reese’s death and partial payment by the
company of Reeses’s share, a new certificate was issued in the name of MANTRASCO, and
the certificate indorsed to the Trustees. Subsequently, the stockholders reverted the 24,700
shares in the Treasury to the capital account of the company as stock dividends to be
distributed to the stockholders. When the entire purchase price of Reese’s interest in the
company was paid in full by the latter, the trust agreement was terminated, and the shares
held in trust were delivered to the company.

The Bureau of Internal Revenue concluded that the distribution of the 24,700 shares of
Reese as stock dividends was in effect a distribution of the "assets or property of the
corporation." It therefore assessed respondents for deficiency income taxes as well as for
fraud penalty and interest charges. The Court of Tax Appeals absolved respondent from any
liability for receiving the questioned stock dividends on the ground that their respective
one-third interest in the Company remained the same before and after the declaration of the
stock dividends and only the number of shares held by each of them had changed.

On a petition for review, the Supreme Court held that the newly acquired shares were not
treasury shares; their declaration as treasury stock dividends was a complete nullity and that
the assessment by the Commissioner of fraud penalty and the imposition of interest charges
pursuant to the provision of the Tax Code were made in accordance with law.
Judgment of the Court of Tax Appeals se aside.

CASTRO, J.:

SUMMARY:
MANTRASCO’s:
authorized capital stock - P2,500,000; divided into 25,000 common shares.
MANTRASCO’s STOCKHOLDERS:
Julius S. Reese - 24,700
Respondents - 100 shares each

ISSUE: WON the 24,700 shares declared as stock dividends were treasury shares

HELD: NO
Although authorities may differ on the exact legal and accounting status of so-called
"treasury shares,"
1 they are more or less in agreement that treasury shares are stocks ​issued and fully paid
for and re-acquired by the corporation​ either by purchase, donation, forfeiture or other
means.
2 Treasury shares are therefore ​issued shares​, but ​being in the treasury​ they ​do not
have the status of outstanding shares​.
3 Consequently, although a treasury share, not having been retired by the corporation
re-acquiring it, may be re-issued or sold again, such share, ​as long as it is held by the
corporation as a treasury share, participates neither in dividends​, because ​dividends
cannot be declared by the corporation to itself​,
4 ​nor in the meetings of the corporation as voting stock​, for otherwise ​equal distribution
of voting powers among stockholders will be effectively lost and the directors will be able to
perpetuate their control of the corporation​,
5 though it ​still represents a paid-for interest in the property of the corporation​.
6 The foregoing essential features of a treasury stock are lacking in the questioned shares.

The ​manifest intention​ of the parties to the trust agreement was, in sum and substance, to
treat the 24,700 shares of Reese as absolutely outstanding shares of Reese’s estate until
they were fully paid​. Such being the true nature of the 24,700 shares, their declaration as
treasury stock dividend in 1958 was a complete nullity and plainly violative of public policy. ​A
stock dividend, being one payable in capital stock, cannot be declared out of
outstanding corporate stock, but only from retained earnings.

Nature of a stock dividend:


- always involves a transfer of surplus (or profit) to capital stock.
- is a conversion of surplus or undivided profits into capital stock, which is distributed to
stockholders in lieu of a cash dividend.’
- any distribution made by a corporation to its shareholders, whether in money or in other
property, out of its earnings or profits (as defined by Congress in No. 115(a) of the Act).
- recognized that within the meaning of the revenue acts the essence of a stock dividend
was the segregation out of surplus account of a definite portion of the corporate earnings as
part of the permanent capital resources of the corporation by the device of capitalizing the
same, and the issuance to the stockholders of additional shares of stock representing the
profits so capitalized (Eisner v. Macomber, prevailing and the dissenting opinions).

The declaration by the respondents and Reese’s trustees of MANTRASCO’s alleged


treasury stock dividends in favor of the former, brings, however, into clear focus the ultimate
purpose which the parties to the trust instrument aimed to realize: to make the respondents
the sole owners of Reese’s interest in MANTRASCO by utilizing the periodic earnings of that
company and its subsidiaries to directly subsidize their purchase of the said interests, and by
making it appear outwardly, through the formal declaration of non-existent stock dividends in
the treasury, that they have not received any income from those firms when, in fact, by that
declaration they secured to themselves the means to turn around as full owners of Reese’s
shares. In other words, ​the respondents, using the trust instrument as a convenient technical
device, bestowed unto themselves the full worth and value of Reese’s corporate holdings
with the use of the very earnings of the companies​. Such package device, obviously ​not
designed to carry out the usual stock dividend purpose of corporate expansion
reinvestment​, e.g. the acquisition of additional facilities and other capital budget items, ​but
exclusively for expanding the capital base of the respondents in MANTRASCO​, cannot be
allowed to deflect the respondents’ responsibilities toward our income tax laws. The
conclusion is thus ineluctable that ​whenever the companies involved herein parted with a
portion of their earnings "to buy" the corporate holdings of Reese, they were in ultimate
effect and result making a distribution of such earnings to the respondents​. All these
amounts are consequently subject to income tax as being, in truth and in fact, a flow of cash
benefits to the respondents.

Subject to the the foregoing qualifications, we find the action taken by the Commissioner in
all other respects — that is, the assessment of a fraud penalty and imposition of interest
charges pursuant to the provisions of the Tax Code — to be in accordance with law.

Disposition:​ ACCORDINGLY, the judgment of the Court of Tax Appeals absolving the
respondents from any deficiency income tax liability is set aside, and this case is hereby
remanded to the Court of Tax Appeals for further proceedings. More specifically, the Court of
Tax Appeals shall recompute the income tax liabilities of the respondents in accordance with
this decision and with the Tax Code, and thereafter pronounce and enter judgment
accordingly. No costs.

SECOND DIVISION
[G.R. No. 43350. December 23, 1937.]

CAGAYAN FISHING DEVELOPMENT CO., Inc., Plaintiff-Appellant, v. TEODORO


SANDIKO, Defendant-Appellee.

SYLLABUS
1. CORPORATIONS; TRANSFER MADE TO A NON-EXISTENT CORPORATION;
JURIDICAL CAPACITY TO ENTER INTO A CONTRACT. — The transfer made by T to the
C. F. D. Co., Inc., was, effected on May 31, 1930 and the actual incorporation of said
company was effected later on (October 22, 1930. In other words, the transfer was made
almost five months before the incorporation of the company. Unquestionably, a duly
organized corporation has the power to purchase and hold such real property as the
purposes for which such corporation was formed may permit and for this purpose may enter
into such contracts as may be necessary. But before a corporation may be said to be
lawfully organized, many things have to be done. Among other things, the law requires the
filing of articles of incorporation. Although there is a presumption that all the requirements of
law have been complied with in the case before us it can not be denied that the plaintiff was
not yet incorporated when it entered into take contract of sale The contract itself referred to
the plaintiff as "una sociodad en vias de incorporacion." It was not even a de facto
corporation at the time. Not being in legal existence then, it did not possess juridical capacity
to enter into the contract.

2. ID.; ID.; ID. — Corporation are creatures of the law, and can only, come into existence in
the manner prescribed by law. General laws authorizing the formation of corporations are
general offers to any persons who may bring themselves within their provisions; and if
conditions precedent are prescribed in the statute, or certain acts are required to be done,
they are terms of the offer, and must be complied wish substantially before legal corporate
existence can be acquired. That a corporation should have a full and complete organization
and existence as an entity before it can enter Into any kind of a contract or transact any
business, would seem to be self-evident.

3. ID.; ID.; ID. — A corporation, until organized, has no life and, therefore, no faculties. It is,
as it were, a child in venture sa mere. This is not saying, that under no circumstances may
the acts of promoters of a corporation he ratified by the corporation if and when
subsequently organized. There are, of course, exceptions, but under the peculiar facts and
circumstances of the present case the doctrine of ratification should not be extended
because to do so would result in injustice or fraud to the candid and unwary.

LAUREL, J.:

SUMMARY:
Manuel Tabora is the registered owner of 4 parcels of land (barrio of Linao, town of Aparri,
Province of Cagayan; , TCT No. 217 of the land records of Cagayan)

Tabora loaned P8,000 from PNB and used his 4 parcels of land as a 1st mortgage. Tabora
loaned P7,000 from PNB and used the same parcels of land as a 2nd mortgage. Tabora
loaned P2,900 from one Severina Buzon and used the same lands as a 3rs mortgage.
These mortgages were registered and annotations thereof appear at the back of TCT.

Tabora executed a public document (Escritura de Traspaso de Propiedad Inmueble) -


Tabora’s 4 lands were sold to the plaintiff (Cagayan Fishing) said to be under process of
incorporation, in consideration of P1 subject to the mortgages in favor of the PNB and Buzon
and, to the condition that the TCT to said lands shall not be transferred to the name of the
Cagayan Fishing until the latter has fully and completely paid Tabora’s indebtedness to the
PNB.

Cagayan fishing filed its AOI with the Bureau of Commerce and Industry. A year later, the
BoD of the said company adopted a resolution authorizing its president, Jose Ventura, to sell
the 4 parcels of land in question to Teodoro Sandiko for P42,000.

The ff. were thereafter made and executed. Exhibit B - deed of sale; Cagayan Fishing sold,
ceded and transferred to the Sandiko all its rights, titles and interest in and to the 4 parcels
of land described in TCT No. 217 for P25,300; and the Sandiko in turn obligated himself to
shoulder the 3 mortgages hereinbefore referred to.
Exhibit C - promissory note for P25,300 drawn by the Sandiko in favor of the Cagayan
Fishing, payable after one year from the date thereof.
Exhibit D - deed of mortgage executed before a notary public in accordance with which the 4
parcels of land were given as security for the payment of the promissory note, Exhibit C.

Sandiko failed to pay the sum stated in the promissory note.

Cagayan Fishing’s action praying that judgment be rendered against the Sandiko (P25,300)
-> CFI. DISMISSED. Court absolved Sandiko

Cagayan Fishing’s Motion for New Trial -> CFI. DENIED.

Cagayan Fishing’s appeal -> SC.

ISSUE: WON

HELD:

The transfer made by Tabora to the Cagayan Fishing Development Co., Inc., plaintiff herein,
was effected on May 31, 1930 and the actual incorporation of said company was effected
later on October 22, 1930. In other words, the ​transfer was made almost five months before
the incorporation of the company.​ Unquestionably, a duly organized corporation has the
power to purchase and hold such real property as the purposes for which such corporation
was formed may permit and for this purpose may enter into such contracts as may be
necessary. But before a corporation may be said to be lawfully organized, many things have
to be done. Among other things, the law requires the filing of articles of incorporation
Although there is a presumption that all the requirements of law have been complied with, in
the case before us ​it can not be denied that the plaintiff was not yet incorporated when
it entered into the contract of sale​, Exhibit A. The contract itself referred to the plaintiff as
"una sociedad en vias de incorporacion." ​It was not even a de facto corporation at the time.
Not being in legal existence then, it did not possess juridical capacity to enter into the
contract.

"Corporations are creatures of the law, and can only come into existence in the
manner prescribed by law. As has already been stated, general laws authorizing the
formation of corporations are general offers to any persons who may bring
themselves within their provisions; and if conditions precedent are prescribed in the
statute, or certain acts are required to be done, they are terms of the offer, and must
be complied with substantially before legal corporate existence can be acquired."

"That a corporation should have a full and complete organization and existence as an entity
before it can enter into any kind of a contract or transact any business, would seem to be
self evident. . . . A corporation, until organized, has no being, franchises or faculties. Nor do
those engaged in bringing it into being have any power to bind it by contract, unless so
authorized by the charter. ​Until organized as authorized by the charter there is not a
corporation, nor does it possess franchises or faculties for it or others to exercise,
until it acquires a complete existence​." (Gent v. Manufacturers and Merchants’ Mutual
Insurance Company)

Boiled down to its naked reality, the contract here (Exhibit A) was entered into not only
between Manuel Tabora and a non-existent corporation but between Manuel Tabora as
owner of 4 parcels of land on the one hand and the same Manuel Tabora, his wife and
others, as mere promoters of a corporation on the other hand. For reasons that are
self-evident, these promoters could not have acted as agents for a projected corporation
since ​that which had no legal existence could have no agent. A corporation, until
organized, has no life and therefore no faculties​. It is, as it were, a child in ventre sa
mere. This is not saying that under no circumstances may the acts of promoters of a
corporation be ratified by the corporation if and when subsequently organized. There are, of
course, exceptions, but under the peculiar facts and circumstances of the present case we
decline to extend the doctrine of ratification which would result in the commission of injustice
or fraud to the candid and unwary. It should be observed that Manuel Tabora was the
registered owner of the 4 parcels of land, which he succeeded in mortgaging to the PNB so
that he might have the necessary funds with which to convert and develop them into fishery.
He appeared to have met with financial reverses. He formed a corporation composed of
himself, his wife, and a few others. From the AOI, it appears that out of the P48,700, amount
of capital stock subscribed, P45,000 was subscribed by Manuel Tabora himself and P500 by
his wife, Rufina Q. de Tabora; and out of the P43,300, amount paid on subscriptions,
P42,100 is made to appear as paid by Tabora and P200 by his wife. Both Tabora and his
wife were directors and the latter was treasurer as well. In fact, to this day, the lands remain
inscribed in Tabora’s name. The Sandiko always regarded Tabora as the owner of the lands.
He dealt with Tabora directly. Jose Ventura, president of the plaintiff corporation, intervened
only to sign the contract, Exhibit B, in behalf of the plaintiff. Even the PNB, mortgagee of the
4 parcels of land, always treated Tabora as the owner of the same. Two civil suits (Nos.
1931 and 38641) were brought against Tabora in the CFI of Manila and in both cases a writ
of attachment against the 4 parcels of land was issued. The PNB threatened to foreclose its
mortgages. Tabora approached the defendant Sandiko and succeeded in making him sign
Exhibits B, C, and D and in making him, among other things, assume the payment of
Tabora’s indebtedness to the PNB. The promissory note, Exhibit C, was made payable to
the plaintiff Cagayan Fishing so that it may not be attached by Tabora’s creditors, two of
whom had obtained writs of attachment against the 4 parcels of land.
If the plaintiff corporation could not and did not acquire the 4 parcels of land here involved, it
follows that it did not possess any resultant right to dispose of them by sale to the defendant,
Teodoro Sandiko.

Some of the members of this court are also of the opinion that the transfer from Manuel
Tabora to the Cagayan Fishing Development Company, Inc., which transfer is evidenced by
Exhibit A, was subject to a condition precedent (condicion suspensiva), namely, the payment
of a mortgage debt of the said Tabora to the PNB, and that this condition not having been
complied with by the Cagayan Fishing Development Company, Inc., the transfer was
ineffective. However, having arrived at the conclusion that the ​transfer by Manuel Tabora to
the Cagayan Fishing Development Company, Inc. was null because at the time it was
effected the corporation was non-existent​, we deem it unnecessary to discuss this point.

Disposition​: The decision of the lower court is accordingly affirmed, with costs against the
appellant. So ordered.

EN BANC
G.R. No. L-28113 March 28, 1969

THE MUNICIPALITY OF MALABANG, LANAO DEL SUR, and AMER MACAORAO


BALINDONG, petitioners,
vs.
PANGANDAPUN BENITO, HADJI NOPODIN MACAPUNUNG, HADJI HASAN
MACARAMPAD, FREDERICK V. DUJERTE MONDACO ONTAL, MARONSONG ANDOY,
MACALABA INDAR LAO. respondents.

CASTRO, J.:

Summary:
Petitioner Amer Macaorao Balindong (mayor of Malabang, Lanao del Sur)
Respondent Pangandapun Bonito - (mayor of May alabagan, Lanao)
Rest of the respondents are the councilors, of the municipality of Balabagan of the same
province.
Balabagan was formerly a part of the municipality of Malabang, having been created on
March 15, 1960, by Executive Order 386 of the then President Carlos P. Garcia, out of
barrios and sitios 1 of the latter municipality.

The petitioners brought this action for prohibition to nullify Executive Order 386 and to
restrain the respondent municipal officials from performing the functions of their respective
office relying on the ruling of this Court in Pelaez v. Auditor General 2 and Municipality of
San Joaquin v. Siva. 3

In Pelaez this Court, through Mr. Justice (now Chief Justice) Concepcion, ruled: (1) that
section 23 of Republic Act 2370 [Barrio Charter Act, approved January 1, 1960], by vesting
the power to create barrios in the provincial board, is a "statutory denial of the presidential
authority to create a new barrio [and] implies a negation of the bigger power to create
municipalities," and (2) that section 68 of the Administrative Code, insofar as it gives the
President the power to create municipalities, is unconstitutional (a) because it constitutes an
undue delegation of legislative power and (b) because it offends against section 10 (1) of
article VII of the Constitution, which limits the President's power over local governments to
mere supervision. As this Court summed up its discussion: "In short, even if it did not entail
an undue delegation of legislative powers, as it certainly does, said section 68, as part of the
Revised Administrative Code, approved on March 10, 1917, must be deemed repealed by
the subsequent adoption of the Constitution, in 1935, which is utterly incompatible and
inconsistent with said statutory enactment."

On the other hand, the respondents, while admitting the facts alleged in the petition,
nevertheless argue that the rule announced in Pelaez can have no application in this case
because unlike the municipalities involved in Pelaez, the municipality of Balabagan is at
least a de facto corporation, having been organized under color of a statute before this was
declared unconstitutional, its officers having been either elected or appointed, and the
municipality itself having discharged its corporate functions for the past five years preceding
the institution of this action. It is contended that as a de facto corporation, its existence
cannot be collaterally attacked, although it may be inquired into directly in an action for quo
warranto at the instance of the State and not of an individual like the petitioner Balindong.

It is indeed true that, generally, an inquiry into the legal existence of a municipality is
reserved to the State in a proceeding for quo warranto or other direct proceeding, and that
only in a few exceptions may a private person exercise this function of government. 4 But
the rule disallowing collateral attacks applies only where the municipal corporation is at least
a de facto corporations. 5 For where it is neither a corporation de jure nor de facto, but a
nullity, the rule is that its existence may be, questioned collaterally or directly in any action or
proceeding by any one whose rights or interests ate affected thereby, including the citizens
of the territory incorporated unless they are estopped by their conduct from doing so. 6

And so the threshold question is whether the municipality of Balabagan is a de facto


corporation. As earlier stated, the claim that it is rests on the fact that it was organized before
the promulgation of this Court's decision in Pelaez. 7

Accordingly, we address ourselves to the question whether a statute can lend color of
validity to an attempted organization of a municipality despite the fact that such statute is
subsequently declared unconstitutional.lawphi1.ñet

This has been a litigiously prolific question, sharply dividing courts in the United States.
Thus, some hold that a de facto corporation cannot exist where the statute or charter
creating it is unconstitutional because there can be no de facto corporation where there can
be no de jure one, 8 while others hold otherwise on the theory that a statute is binding until it
is condemned as unconstitutional. 9

An early article in the Yale Law Journal offers the following analysis:
It appears that the true basis for denying to the corporation a de facto status lay in the
absence of any legislative act to give vitality to its creation. An examination of the cases
holding, some of them unreservedly, that a de facto office or municipal corporation can exist
under color of an unconstitutional statute will reveal that in no instance did the invalid act
give life to the corporation, but that either in other valid acts or in the constitution itself the
office or the corporation was potentially created....

The principle that color of title under an unconstitutional statute can exist only where there
is some other valid law under which the organization may be effected, or at least an authority
in potentia by the state constitution, has its counterpart in the negative propositions that
there can be no color of authority in an unconstitutional statute that plainly so appears on its
face or that attempts to authorize the ousting of a de jure or de facto municipal corporation
upon the same territory; in the one case the fact would imply the imputation of bad faith, in
the other the new organization must be regarded as a mere usurper....

As a result of this analysis of the cases the following principles may be deduced which
seem to reconcile the apparently conflicting decisions:

I. The color of authority requisite to the organization of a de facto municipal corporation may
be:

1. A valid law enacted by the legislature.

2. An unconstitutional law, valid on its face, which has either (a) been upheld for a time by
the courts or (b) not yet been declared void; provided that a warrant for its creation can be
found in some other valid law or in the recognition of its potential existence by the general
laws or constitution of the state.

II. There can be no de facto municipal corporation unless either directly or potentially, such a
de jure corporation is authorized by some legislative fiat.

III. There can be no color of authority in an unconstitutional statute alone, the invalidity of
which is apparent on its face.

IV. There can be no de facto corporation created to take the place of an existing de jure
corporation, as such organization would clearly be a usurper.10

In the cases where a de facto municipal corporation was recognized as such despite the
fact that the statute creating it was later invalidated, the decisions could fairly be made to
rest on the consideration that there was some other valid law giving corporate vitality to the
organization. Hence, in the case at bar, the mere fact that Balabagan was organized at a
time when the statute had not been invalidated cannot conceivably make it a de facto
corporation, as, independently of the Administrative Code provision in question, there is no
other valid statute to give color of authority to its creation. Indeed, in Municipality of San
Joaquin v. Siva, 11 this Court granted a similar petition for prohibition and nullified an
executive order creating the municipality of Lawigan in Iloilo on the basis of the Pelaez
ruling, despite the fact that the municipality was created in 1961, before section 68 of the
Administrative Code, under which the President had acted, was invalidated. 'Of course the
issue of de facto municipal corporation did not arise in that case.

In Norton v. Shelby Count, 12 Mr. Justice Field said: "An unconstitutional act is not a law; it
confers no rights; it imposes no duties; it affords no protection; it creates no office; it is, in
legal contemplation, as inoperative as though it had never been passed." Accordingly, he
held that bonds issued by a board of commissioners created under an invalid statute were
unenforceable.

Executive Order 386 "created no office." This is not to say, however, that the acts done by
the municipality of Balabagan in the exercise of its corporate powers are a nullity because
the executive order "is, in legal contemplation, as inoperative as though it had never been
passed." For the existence of Executive, Order 386 is "an operative fact which cannot justly
be ignored." As Chief Justice Hughes explained in Chicot County Drainage District v. Baxter
State Bank: 13

The courts below have proceeded on the theory that the Act of Congress, having been
found to be unconstitutional, was not a law; that it was inoperative, conferring no rights and
imposing no duties, and hence affording no basis for the challenged decree. Norton v.
Shelby County, 118 U.S. 425, 442; Chicago, I. & L. Ry. Co. v. Hackett, 228 U.S. 559, 566. It
is quite clear, however, that such broad statements as to the effect of a determination of
unconstitutionality must be taken with qualifications. The actual existence of a statute, prior
to such a determination, is an operative fact and may have consequences which cannot
justly be ignored. The past cannot always be erased by a new judicial declaration. The effect
of the subsequent ruling as to invalidity may have to be considered in various aspects —
with respect to particular relations, individual and corporate, and particular conduct, private
and official. Questions of rights claimed to have become vested, of status of prior
determinations deemed to have finality and acted upon accordingly, of public policy in the
light of the nature both of the statute and of its previous application, demand examination.
These questions are among the most difficult of those which have engaged the attention of
courts, state and federal, and it is manifest from numerous decisions that an all-inclusive
statement of a principle of absolute retroactive invalidity cannot be justified.

There is then no basis for the respondents' apprehension that the invalidation of the
executive order creating Balabagan would have the effect of unsettling many an act done in
reliance upon the validity of the creation of that municipality. 14

​ isposition​: ACCORDINGLY, the petition is granted, Executive Order 386 is declared void,
D
and the respondents are hereby permanently restrained from performing the duties and
functions of their respective offices. No pronouncement as to costs.

EN BANC

G.R. No. L-2598 June 29, 1950


C. ARNOLD HALL and BRADLEY P. HALL, petitioners,
vs.
EDMUNDO S. PICCIO, Judge of the Court of First Instance of Leyte, FRED BROWN, EMMA
BROWN, HIPOLITA CAPUCIONG, in his capacity as receiver of the Far Eastern Lumber
and Commercial Co., Inc., respondents.

Claro M. Recto for petitioners.


Ramon Diokno and Jose W. Diokno for respondents.

BENGZON, J.:

This is petition to set aside all the proceedings had in civil case No. 381 of the Court of First
Instance of Leyte and to enjoin the respondent judge from further acting upon the same.

Facts: (1) on May 28, 1947, the petitioners C. Arnold Hall and Bradley P. Hall, and the
respondents Fred Brown, Emma Brown, Hipolita D. Chapman and Ceferino S. Abella,
signed and acknowledged in Leyte, the article of incorporation of the Far Eastern Lumber
and Commercial Co., Inc., organized to engage in a general lumber business to carry on as
general contractors, operators and managers, etc. Attached to the article was an affidavit of
the treasurer stating that 23,428 shares of stock had been subscribed and fully paid with
certain properties transferred to the corporation described in a list appended thereto.

(2) Immediately after the execution of said articles of incorporation, the corporation
proceeded to do business with the adoption of by-laws and the election of its officers.

(3) On December 2, 1947, the said articles of incorporation were filed in the office of the
Securities and Exchange Commissioner, for the issuance of the corresponding certificate of
incorporation.

(4) On March 22, 1948, pending action on the articles of incorporation by the aforesaid
governmental office, the respondents Fred Brown, Emma Brown, Hipolita D. Chapman and
Ceferino S. Abella filed before the Court of First Instance of Leyte the civil case numbered
381, entitled "Fred Brown et al. vs. Arnold C. Hall et al.", alleging among other things that the
Far Eastern Lumber and Commercial Co. was an unregistered partnership; that they wished
to have it dissolved because of bitter dissension among the members, mismanagement and
fraud by the managers and heavy financial losses.

(5) The defendants in the suit, namely, C. Arnold Hall and Bradley P. Hall, filed a motion to
dismiss, contesting the court's jurisdiction and the sufficiently of the cause of action.

(6) After hearing the parties, the Hon. Edmund S. Piccio ordered the dissolution of the
company; and at the request of plaintiffs, appointed of the properties thereof, upon the filing
of a P20,000 bond.

(7) The defendants therein (petitioners herein) offered to file a counter-bond for the
discharge of the receiver, but the respondent judge refused to accept the offer and to
discharge the receiver. Whereupon, the present special civil action was instituted in this
court. It is based upon two main propositions, to wit:

(a) The court had no jurisdiction in civil case No. 381 to decree the dissolution of the
company, because it being a de facto corporation, dissolution thereof may only be ordered in
a quo warranto proceeding instituted in accordance with section 19 of the Corporation Law.

(b) Inasmuch as respondents Fred Brown and Emma Brown had signed the article of
incorporation but only a partnership.

Discussion: The second proposition may at once be dismissed. All the parties are informed
that the Securities and Exchange Commission has not, so far, issued the corresponding
certificate of incorporation. All of them know, or sought to know, that the personality of a
corporation begins to exist only from the moment such certificate is issued — not before
(sec. 11, Corporation Law). The complaining associates have not represented to the others
that they were incorporated any more than the latter had made similar representations to
them. And as nobody was led to believe anything to his prejudice and damage, the principle
of estoppel does not apply. Obviously this is not an instance requiring the enforcement of
contracts with the corporation through the rule of estoppel.

The first proposition above stated is premised on the theory that, inasmuch as the Far
Eastern Lumber and Commercial Co., is a de facto corporation, section 19 of the
Corporation Law applies, and therefore the court had not jurisdiction to take cognizance of
said civil case number 381. Section 19 reads as follows:

. . . The due incorporation of any corporations claiming in good faith to be a corporation


under this Act and its right to exercise corporate powers shall not be inquired into collaterally
in any private suit to which the corporation may be a party, but such inquiry may be had at
the suit of the Insular Government on information of the Attorney-General.

There are least two reasons why this section does not govern the situation. Not having
obtained the certificate of incorporation, the Far Eastern Lumber and Commercial Co. —
even its stockholders — may not probably claim "in good faith" to be a corporation.

Under our statue it is to be noted (Corporation Law, sec. 11) that it is the issuance of a
certificate of incorporation by the Director of the Bureau of Commerce and Industry which
calls a corporation into being. The immunity if collateral attack is granted to corporations
"claiming in good faith to be a corporation under this act." Such a claim is compatible with
the existence of errors and irregularities; but not with a total or substantial disregard of the
law. Unless there has been an evident attempt to comply with the law the claim to be a
corporation "under this act" could not be made "in good faith." (Fisher on the Philippine Law
of Stock Corporations, p. 75. See also Humphreys vs. Drew, 59 Fla., 295; 52 So., 362.)

Second, this is not a suit in which the corporation is a party. This is a litigation between
stockholders of the alleged corporation, for the purpose of obtaining its dissolution. Even the
existence of a de jure corporation may be terminated in a private suit for its dissolution
between stockholders, without the intervention of the state.

There might be room for argument on the right of minority stockholders to sue for
dissolution;1 but that question does not affect the court's jurisdiction, and is a matter for
decision by the judge, subject to review on appeal. Whkch brings us to one principal reason
why this petition may not prosper, namely: the petitioners have their remedy by appealing
the order of dissolution at the proper time.

There is a secondary issue in connection with the appointment of a receiver. But it must be
admitted that receivership is proper in proceedings for dissolution of a company or
corporation, and it was no error to reject the counter-bond, the court having declared the
dissolution. As to the amount of the bond to be demanded of the receiver, much depends
upon the discretion of the trial court, which in this instance we do not believe has been
clearly abused.

Disposition:​ Judgment: The petition will, therefore, be dismissed, with costs. The preliminary
injunction heretofore issued will be dissolved.

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