In the Philippine commercial landscape, government contracts are often viewed as high-value assets due to the perceived solvency of the Republic. For contractors—ranging from infrastructure developers to service providers—these contracts represent not just future revenue, but a potent form of "paper wealth" that can be leveraged to solve liquidity constraints.
The process of using a government contract as collateral primarily involves the legal concepts of Assignment of Credits and Pledging of Receivables, governed by the Civil Code and modern secured transactions laws.
1. Legal Basis and Regulatory Framework
The legal efficacy of using government contracts as collateral is anchored in several key pieces of legislation:
- The Civil Code of the Philippines: Specifically, Articles 1624 to 1635 (Assignment of Credits). It allows a creditor to transfer their right to collect a debt to a third party (the bank).
- Republic Act No. 11057 (Personal Property Security Act or PPSA): This is the primary law governing the use of personal property—including intangible assets like contract rights and accounts receivable—as collateral. The PPSA simplified the process of "perfection" (making the security interest binding against third parties) through a centralized registry.
- Republic Act No. 9184 (Government Procurement Reform Act): While this law regulates the bidding and awarding of contracts, it also dictates the terms under which payments are made, which directly impacts the "bankability" of the contract.
2. Mechanism: Assignment of Credits vs. Pledging
When a contractor uses a government contract as collateral, they are typically entering into an Assignment of Credit (AOC).
How it Works:
- The Agreement: The contractor (Assignor) and the Bank (Assignee) sign a deed where the contractor transfers their right to receive payments from a specific government agency to the bank.
- Notification: For the assignment to be binding on the government agency (the Obligor), the agency must be officially notified.
- Remittance: Once notified, the government agency is legally bound to remit payments directly to the bank instead of the contractor until the loan is satisfied.
Legal Note: Under the PPSA, a security interest in accounts receivable is perfected by registration in the Land Registration Authority (LRA) registry, ensuring the bank has priority over other potential creditors.
3. Key Requirements for Bankability
Not every government contract is eligible for financing. Banks typically look for the following "Quality Markers":
- Notice of Award (NOA) and Notice to Proceed (NTP): The contract must be perfected and active.
- Budget Appropriation: Banks verify if the project has a secured line in the General Appropriations Act (GAA) or if a Certificate of Availability of Funds (CAF) has been issued.
- Assignability Clause: The contract must not expressly prohibit assignment. While most government contracts allow for the assignment of payments, they strictly prohibit the assignment of performance (i.e., you can't hire someone else to do the work without consent).
4. Risks and Challenges
Despite the government being a "sure payor," this type of collateral carries specific risks:
A. The "Set-Off" Risk
Under Philippine law, the government may exercise a "Right of Set-off." If the contractor owes back taxes to the BIR or has unsettled penalties on a different government project, the government can deduct those liabilities from the contract price before the bank receives a cent.
B. Project Performance Risk
Payments are usually milestone-based. If the contractor fails to hit a project milestone or the contract is terminated for default, the "collateral" (the future payment) effectively vanishes. This is why banks often pair contract assignments with Surety Bonds or Credit Lines.
C. Bureaucratic Delays
While the PPSA has modernized the registration of security interests, the actual "Notice of Assignment" process within government agencies can be slow. If an agency continues to pay the contractor instead of the bank due to a clerical lag, the bank's security is compromised.
5. Comparison: PPSA vs. Old Chattel Mortgage Law
Before the PPSA, securing loans with intangible rights was cumbersome. The current framework provides a clearer path:
| Feature | Old System (Chattel Mortgage) | Modern System (PPSA) |
|---|---|---|
| Asset Type | Focus on physical goods | Broadly includes "Intangible Assets" |
| Registration | Localized (per province) | Centralized (National Registry) |
| Future Property | Often legally debated | Expressly allows "Future Property" |
| Priority | Based on date of execution | Based on "First to Register" |
6. Practical Steps for Contractors
To successfully use a government contract as collateral in the Philippines, the following steps are standard:
- Validation: Obtain a certified true copy of the Contract and the Certificate of Availability of Funds.
- Board Resolution: For corporations, a Secretary’s Certificate authorizing the assignment of the specific contract is required.
- Execution of Deed of Assignment: Sign the legal document transferring the credit rights to the lender.
- LRA Registration: Ensure the bank registers the security interest under the PPSA registry.
- Agency Acknowledgment: Secure a formal "Letter of Acknowledgment" from the government agency’s accounting/finance department, confirming they will remit payments to the bank’s designated account.