When penalty may be reduced by courts

Article 1229 of the Civil Code governs the rule when penalty may be reduced by courts, to wit:

ART. 1229. The judge shall equitably reduce the penalty when the principal obligation has been partly or irregularly complied with by the debtor. Even if there has been no performance, the penalty may also be reduced by the courts if it is iniquitous or unconscionable. (1154a)

In Imperial v. Jaucien,[1] the Supreme Court held that iniquitous and unconscionable stipulations on interest rates, penalties, and attorney’s fees are contrary to morals. The penalty provided for in the penal clause may be reduced by courts if the principal obligation has been partly or irregularly complied with or if the penalty agreed upon is iniquitous or unconscionable.[2]

In determining whether a penalty is "iniquitous or unconscionable," a court may very well take into account the actual damages sustained by a creditor who was compelled to sue a defaulting creditor, which actual damages would include the interest and penalties the creditor may have had to pay on his own from his funding source.[3]

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[1] 427 SCRA 517 (2004).

[2] De Leon. (2014). Obligations and Contracts.

[3] Domel Trading Corporation vs. Court of Appeals, 315 SCRA 13 (1999).