Obligations with a penal clause

Article 1226. In obligations with a penal clause, the penalty shall substitute the indemnity for damages and the payment of interests in case of noncompliance, if there is no stipulation to the contrary. Nevertheless, damages shall be paid if the obligor refuses to pay the penalty or is guilty of fraud in the fulfillment of the obligation.The penalty may be enforced only when it is demandable in accordance with the provisions of this Code.

If the agreement contains a stipulation that in case of noncompliance, the person obliged shall pay a certain fine, there is no more need for payment for damages or for interests, except when the parties agreed that there must still be payment of the same. Otherwise put, parties to an agreement may stipulate that the debtor in case of noncompliance shall pay both a certain fine agreed upon and the damages and interests for failure to perform the obligation.

Remember, as a general rule, the stipulated fine substitutes the payment for damages and fines. However, the parties may stipulate to override the general rule.

The general rule likewise does not apply if the debtor refuses to pay the agreed penalty or if the debtor is guilty of fraud in the fulfillment of the obligation. In short, in case of refusal to pay the fine or fraud in the fulfillment of the obligation, the debtor shall still pay both the fine agreed upon and the damages and interests.

Take note also that the Courts have the power to reduce the penalty stipulated. Article 1229 provide, "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." In short, in case of partial performance of the obligation, irregular performance of the obligation or unconscionable penalty despite nonperformance, the Courts may step in and reduce the penalty.

What is a penal clause?

A penal clause is another obligation attached to the principal one, requiring the payment or performance of something, or simply, requiring a greater responsibility, in case of noncompliance in order to assure performance or to deter nonperformance.

Other annotators defined "penal clause" as a “coercive means to obtain from the debtor compliance of the obligation.” It has also been defined as “an accessory undertaking to assume greater liability in case of breach. It is attached to obligations in order to insure their performance.

What are the different kinds of penal clauses?

There are penal clauses imposed by law and there are those which are agree upon by the parties to an agreement. The former are called "legal penal clauses" and the latter are called "conventional penal clauses."

Penal clauses are also said to be subsidiary or joint. They are subsidiary when only the penalty may be asked or, in other words, when the penalty substitutes for the principal obligation. On the other hand, they are joint when both the principal obligation and the penalty can be collected.