In Philippine law, the sanctity of contracts is a fundamental principle. Under Article 1308 of the Civil Code, the contract must bind both contracting parties, and its validity or compliance cannot be left to the will of one of them. However, the law recognizes that certain circumstances—such as inequity, fraud, or breach—necessitate the undoing of a contract. This is achieved through Rescission (properly so-called under Article 1380) or Resolution (often referred to as rescission under Article 1191).
1. Rescissible Contracts (Article 1381)
Rescission is a remedy granted by law to the contracting parties and sometimes even to third persons in order to secure reparation of damages caused them by a valid contract. It is a subsidiary remedy, meaning it can only be availed of when the injured party has no other legal means to obtain reparation.
Under Article 1381 of the Civil Code, the following contracts are rescissible:
- Contracts entered into by guardians: When the wards whom they represent suffer lesion (economic damage) by more than one-fourth ($\frac{1}{4}$) of the value of the things which are the object thereof.
- Contracts agreed upon in representation of absentees: If the absentee suffers the same lesion mentioned above.
- Contracts undertaken in fraud of creditors: When the creditors cannot in any other manner collect the claims due them (Accion Pauliana).
- Contracts which refer to things under litigation: If they have been entered into by the defendant without the knowledge and approval of the litigants or of competent judicial authority.
- All other contracts specially declared by law to be subject to rescission.
Requisites for Rescission
For a rescission under Article 1381 to prosper, the following must concur:
- The contract must be validly agreed upon (it is not void or voidable).
- There must be lesion or pecuniary prejudice to one of the parties or a third person.
- The rescission must be based upon a case provided by law.
- There must be no other legal remedy to obtain reparation.
- The party seeking rescission must be able to return what he is obliged to restore.
- The object of the contract must not be legally in the possession of third persons who acted in good faith.
2. Resolution of Reciprocal Obligations (Article 1191)
While popularly called "cancellation" or "rescission," Article 1191 specifically deals with Resolution. This applies to reciprocal obligations where one party fails to comply with what is incumbent upon him.
- The Power to Rescind: The power to rescind is implied in reciprocal obligations in case one of the obligors should not comply with what is incumbent upon him.
- Choice of Remedies: The injured party may choose between:
- Specific Performance (fulfillment of the obligation) with damages.
- Resolution (rescission) of the obligation with damages.
- Judicial Discretion: The court shall decree the rescission claimed, unless there be just cause authorizing the fixing of a period. It is important to note that slight or casual breaches do not warrant rescission; the breach must be substantial and fundamental as to defeat the object of the parties in making the agreement.
3. Voidable Contracts vs. Rescissible Contracts
It is a common legal error to confuse Rescission with the Annulment of a voidable contract.
| Feature | Rescissible (Art. 1381) | Voidable (Art. 1390) |
|---|---|---|
| Defect | External (Lesion/Damage) | Internal (Vitiated Consent) |
| Validity | Valid until rescinded | Valid until annulled |
| Nature of Remedy | Subsidiary (Last resort) | Principal |
| Grounds | Economic damage/Fraud | Incapacity, Mistake, Violence, Undue Influence, Fraud |
4. Cancellation by Mutual Consent (Mutual Dissensus)
Parties to a contract may agree to cancel their agreement at any time. This is an exercise of the Freedom to Contract. If both parties agree to "step back" and return to their pre-contractual status, the contract is extinguished. This does not require a specific legal ground other than the mutual meeting of the minds to terminate the existing relationship.
5. Rescission/Cancellation under Special Laws
In specific sectors, such as real estate, the law provides additional protections regarding the cancellation of contracts.
The Maceda Law (R.A. 6552)
Also known as the Realty Installment Buyer Act, this governs the cancellation of contracts involving the sale of real estate on installment payments.
- If the buyer has paid at least two years of installments: They are entitled to a grace period and, if the contract is cancelled, a cash surrender value (50% of total payments, increasing after five years).
- Notice Requirement: Cancellation can only take place 30 days after the buyer receives a notarial notice of cancellation or demand for rescission.
6. Prescriptive Periods
The right to file an action for rescission is not perpetual.
- General Rescission (Art. 1381): The action to claim rescission must be commenced within four (4) years.
- For persons under guardianship and absentees: The period of four years shall not begin until the termination of the former's incapacity, or until the domicile of the latter has been known.
- Resolution (Art. 1191): Since this is based on a written contract, the action prescribes in ten (10) years from the time the right of action accrues.
7. Effects of Rescission
Rescission creates the obligation to return the things which were the object of the contract, together with their fruits, and the price with its interest. Consequently, it can only be carried out when he who demands rescission can return whatever he may be obliged to restore.
If the thing is in the hands of a third party who acquired it in good faith, the remedy of the injured party is not the recovery of the property but an action for damages against the person who caused the fraud or lesion.