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Banking Q & A

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1. Before the passage of the GBL of 2000, a bank's ability to guarantee obligations was generally limited to issuing standby letters of
credit. Explain why this was the case. What about now?: Under Section 74 of the General Banking Act, banks were generally
prohibited from issuing guarantees except in certain instances. Section 74(e) allowed letters of credit transactions including standby
agreements. Hence, bank guarantees prior to the GBL were usually in the form of standby letters of credit.

Although the power of a commercial bank to issue guarantees is not explicitly mentioned in Section 29, it is quite clear in the new law that
such power has been generally granted to such bank. This conclusion is based on the fact that guarantees are now included in the
computation of the single borrower's limit under Section 35 of the GBL and the fact that the new law does not restate the prohibitory
language of Section 74 of the old law.
2. A commercial bank wants to acquire shares in a construction company. Do you think that it can do that? Why?: No. A commercial
bank can only invest in allied enterprises which can be financial or non-financial. This is a form of prudential measure so as not to expose
commercial banks to the risks of different enterprises.

A construction company is not an allied entity. Examples of financial allied enterprises are leasing companies, credit card companies,
insurance companies while examples of non-financial allied enterprises are warehousing companies, storage companies, safe deposit
box companies. A construction company is not included in the list of allied entities.

A commercial bank, unlike a universal bank which can invest in non-allied enterprises, is limited to owning allied entities and it is
mandated by law to own equities of these up to 35% of its net worth and for any one allied entity, the investment must be only up to 25%
of its net worth
3. Company C entered into two loan agreements with two syndicates of lenders, one in 2005 and the other in 2007. The 2005 loan
agreement contains a cross-default clause, while the 2007 loan agreement has a cross-acceleration default clause. Suppose that
Company C fails to pay a principal installment under the 2005 loan agreement, will the lenders in the 2007 loan agreement be
able to declare Company C in default? Suppose it is the reverse situation (Company C fails to pay a principal installment under
the 2007 loan agreement), will the lenders in the 2005 loan agreement be able to declare Company C in default? Explain your
answers.: In a cross-default clause, the lender can declare the borrower in default in the event the borrower defaults on another
obligation. In a cross-acceleration clause, the lender can declare the borrower in default when the borrower defaults in another
obligation and the lender in said obligation actually accelerates the obligation. Hence, there can be no default with regards to the debt
due to the first lender if there is no acceleration that actually took place in the second loan.

Applying these concepts to the given problem, the lenders in the 2007 agreement cannot declare Company C in default unless the
lender in the 2005 loan agreement actually accelerated the loan making it due and demandable.

For the second scenario wherein the borrower defaults in the 2007 loan agreement, the lenders in the 2005 loan agreement can
automatically declare the borrower in default since mere default already constitutes a violation of their loan agreement.

It can be concluded that a cross-acceleration clause is more beneficial or protective of the borrower in cases of default in another
obligation.
4. Explain "systemic risk" in banking, including its causes: "Systemic Risk" in banking is a principle which states that the failure of one
bank could affect other banks and the banking system as a whole. The following are the causes:

1) Interbank Linkages
It is common for banks to have deposits in other banks. In the event that a bank goes under, other banks which have deposits in the said
defaulting bank might suffer liquidity and financial problems.

2) Interbank Payment System


Under the net-settlement system, banks settle their obligations with each other at the end of the banking day. The real-time system is
where banks settle their debts and obligations immediately. It is possible for a bank not to be able to settle its payment obligations to
other banks and thereby make these other banks in danger of defaulting on their own payment obligations. This will affect the liquidity
and financial stability of the bank unable to collect.

3) Public Perception
The public perception could also affect the banking system if it is perceived that the failure of one bank means that other banks are in
the same situation. They would lose confidence in the banking system and would no longer put their money on banks or avail of their
services.
5. Explain the basic units of a commercial bank or universal bank, namely, the RBU, FCDU and the Trust Department: The Regular
Banking Unit or the "bank proper" is where peso deposits are accepted. On the other hand, the FCDU is authorized to accept deposits in
foreign currency acceptable as part of the international reserve of the country. FCDU deposits are exempt from attachment,
garnishment or any other order or process of any court, legislative body or other government agency. Any person, natural or juridical,
can open an FCDU account as well as a peso account. However, a nonresident cannot open a peso account unless it is funded by a
remittance of foreign exchange. A trust department of a bank performs the function of a trustee of trusts, an agent of Investment
Management Accounts, and other fiduciary functions. The Trust Department is completely separate from the FCDU and RBU. There is no
overlapping of officers between the trust department and these units. The Trust Department is also required to get a separate license to
perform its functions.
6. Felix and his wife opened a joint savings account in Bank XYZ, subjecting the said account to a survivorship arrangement. When
Felix' wife predeceased him, he tried to withdraw the deposit but was not allowed by Bank XYZ, as he could not yet present a
clearance from the BIR that the tax on the estate of his wife was paid. Is Bank XYZ's action justified?: From a purely legal point of
view, Bank XYZ's action is not justified.

Under the Sec. 97 of the NIRC, a bank who has knowledge of the death of a depositor, whether it be individual or joint account, should
not allow any withdrawal from such account without a clearance from the BIR that the estate tax has been paid. A bank may allow the
withdrawal of up to P20,000 from the account of the decedent even without such clearance but with authorization from the
Commissioner

The provision does not apply in cases where there is a survivorship agreement. A survivorship agreement permits either of the co-
depositors to withdraw the whole deposit during their lifetime and transferring the balance to the survivor upon death of one of them.
In this case, the entire deposit becomes the sole property of the survivor, and nothing passes to the decedent's estate which may be
subject to estate tax. The Supreme Court has ruled in Vitug and Ana Rivera that such agreements are valid aleatory contracts so long as
they are not a mere cloak to hide an inofficious donation, to transfer property in fraud of creditors or to defeat the legitime of a forced
heir.

Since there is a survivorship agreement, the entire deposit now becomes the property of Felix and nothing goes to the estate of his wife.

There is however BIR Ruling 010-2003 which is inconsistent with the Supreme Court on the matter. It ruled that Sec. 97 still applies
despite the existence of a survivorship agreement.

In a practical point of view, it can be said that Bank XYZ's refusal is justified. It was only acting prudently and opting to err on the side of
caution. The Bank may opt to refuse to withdraw and follow the BIR Ruling and wait for further orders from the BIR or the BSP/Monetary
Board.
7. How would you draft an assignment of receivables so that it will not be recharacterized as a pledge or a chattel mortgage: So that
an assignment of receivables would not be deemed a pledge or chattel mortgage, it should be structured as follows

1) it must provide for an absolute transfer of title to the deposit from the depositor to the bank
2) the deed must clarify that the assignment is not intended to discharge the loan until the deposit is actually applied in payment of the
loan
3) The deed ought to provide for the reconveyance of the deposit to the depositor upon full payment of the loan
4) There should be a clause stating that nothing in the deed is to be construed as creating a pledge or chattel mortgage

Also, the deed of assignment must grant the bank a hold-out on deposit (the right not to allow the withdrawal of the deposit) with a set of
right over such deposit or a "hold-out cum set off" arrangement. A set off provision applies only if the depositor is at the same time the
debtor of the bank.
8. If the Republic of the Philippines notarizes its loan agreement wherein it is a borrower of Bank Two, does the Republic violate its
pari passu representation to its other lenders? Explain: No.

A pari passu representation on the part of a borrower is an undertaking that he would not give preference to any lender but instead
keep all of them in equal footing. However, a notarized loan agreement would be given preference over one that is not notarized
because the Civil Code provides so.

The Republic of the Philippines is not covered by the preference of credit due to the notarization as provided by Article 2244(14) of the
Civil Code. The said provision contemplates insolvent parties. The Republic of the Philippines cannot be become insolvent because of its
ability to generate revenues through its inherent power of taxation.
9. In a Eurodollar loan agreement approved by the Bangko Sentral ng Pilipinas and secured by a real estate mortgage, how would
you address the BSP requirement that such loan agreement not be notarized, if the loan and mortgage are embodied in one
instrument: There is a problem that arises in this scenario wherein the loan agreement and the real estate mortgage are embodied in
one instrument called the Omnibus Loan Agreement. The loan is required not to be notarized to avoid preference of the loan in
accordance with the pari passu representation. However, the real estate mortgage must be notarized for it to be binding against third
persons.

In order to avoid the conflict, the Omnibus Loan Agreement should contain a stipulation wherein the parties waive the preference of
credit provided in Art. 2244(14) of the New Civil Code when the instrument is notarized.

Also, we should include a provision stating that the notarization only pertains to the mortgage and does not cover the loan agreement
10. Is a promissory note subject to documentary stamp tax? What about if it is transferred to another person? Explain: Yes a
promissory note is subject to documentary stamp tax. Sec. 179 of the NIRC levies documentary stamp tax on all debt instruments of one
peso on each two hundred pesos or fractional part thereof. It provides that only one documentary stamp tax shall be imposed on either
loan agreement, or promissory notes issued to secure a loan.

If it is transferred to another person, it shall no longer be subject to documentary stamp tax pursuant to Sec. 199(f) of the NIRC. The said
provision requires that such assignment, transfer, renewal or continuance of any agreement should contain no change in the maturity
date or remaining period of coverage from that of the original instrument.
11. Rafa went to ABC Bank and provided it with funds for a silent participation in a promissory note issued by DEF Bank to ABC
Bank with the understanding that Rafa assumes the risk of DEF Bank under the promissory note. Which one of the following is
correct? Explain your answer

a) ABC Bank entered into a deposit-substitute transaction with Rafa


b) Rafa can sue DEF Bank based on his silent participation
c) There was a without-recourse sale of receivables by ABC Bank to Rafa
d) The silent participation is subject to documentary stamp tax: The correct statement is C - there was a without-recourse sale of
receivables by ABC Bank to Rafa.

In this case, there was a transfer of beneficial interest of the receivable to Rafa but the legal title of the instrument remained with ABC
Bank. Since this is a silent participation, the borrower does not know or is not aware of the participation of Rafa. Hence, there is not privity
of contract between Rafa and DEF. Also, it was agreed by Rafa and ABC Bank that the former shall bear the risks pertaining to the
instrument - hence it is a sale without recourse.

A is wrong because in a deposit-substitute transaction, the sale should be one that is with recourse in order for the bank to become a
debtor of the other party. The sale between Rafa and ABC Bank was without recourse.

B is wrong because there is no privity of contract between Rafa and DEF Bank based on his silent participation.

D is wrong because DST is not due if the transfer of receivables or promissory notes does not involve a change in the maturity or tenor of
the instrument.
12. Raymond invested in US dollar denominated bonds issued by the Republic of the Philippines and under the custody of Bank
One. The BIR would like to know whether Raymond has such an investment and, for this purpose, requested Bank One to
provide information about such investment. As counsel to Bank One, which of the following would be your advice? Explain

a) Bank One should not disclose the information as this is confidential under the Secrecy of Bank Deposits Law (RA 1405 as
amended)
b) Bank One should provide the information as the BIR is authorized to determine the gross income of Raymond
c) Bank One should not disclose the information as this is confidential under the Foreign Currency Deposit Act (RA 6426 as
amended): A. Bank One should not disclose the information as this is confidential under the Secrecy of Bank Deposits Law. Under the
said law. It is prohibited to look into deposits in pesos as well as investments in bonds issued by the Philippine government or its political
subdivisions and instrumentalities, in any currency. This can only be done 1) with the written permission of the depositor or investor 2) in
cases of impeachment 3) upon order of a competent court in cases of bribery, dereliction of duty of public officials 4) where the money
deposited is subject of the litigation. With respect to the BIR, it may be allowed to inspect deposits or investments only 1) when
determining the gross estate of a decedent for purposes of estate tax and 2) to check if a person, who wants to compromise his tax liability
with the BIR by reason of financial incapacity, has hidden deposits

There is no allegation that Raymond is deceased or wants to enter in to a compromise with the BIR. Therefore, Bank One should not
disclose such information to the Commissioner.

B is not correct because from the facts stated, the BIR is not authorized to determine the gross income as it does not fall under the 2
instances where the BIR can inquire into deposits or investments

C is not correct because such investments do not fall under the Foreign Currency Deposit Act.
13. Supposing the second envelope in the impeachment proceeding against President Estrada concerned an FCDU account, would
the prosecutors have the right to demand its disclosure? Why?: No. The prohibition against disclosure in the Foreign Currency
Deposits Act is absolute. It can only be examined upon 1) written permission of the depositor 2) in cases of violation of the Anti-Money
Laundering Act 3) inquiry by the Commissioner of Internal Revenue into the deposits of a decedent for purposes of determining the
gross estate and 4) Bangko Sentral's inquiry into deposits with any bank when the inquiry is made in the course of the BSP's periodic or
special examination of such bank.
14. Under the Ombudsman Act of 1989, the Ombudsman has access to bank account records. Does that mean that the Secrecy of
Bank Deposits Law is not applicable to the Ombudsman? Explain.: It used to be believed that the Secrecy of Bank Deposists Law did
not apply to the Ombudsman on account of his authority under the Ombudsman Act of 1989 to examine and have access to bank
accounts and records. However, Marquez v. Desierto subjected the Ombudsman's power to the following restrictions:
1) there must be a pending case before a court of competent jurisdiction
2) the account must be clearly identified
3) inspection must be limited to the subject matter of the pending case
4) bank personnel and account holder must be notified to be present during the inspection
5) inspection can only cover the account identified in the pending case
15. What are the different parts of a loan agreement: a) Preamble - contains the names of the parties and the whereas clauses stating the
reasons why the loan agreement was entered into

b) Representations/Warranties - states the reasons or conditions that gave rise to the agreement. It also states the characteristics of the
borrower that made the lender act favorably upon its loan request

c) Terms - embody the matters agreed upon by the parties such as the amount of the loan, maturity date, payment schedules

d) Yield Protection Clause - protects the spread of the lender stating that the borrower be held liable for any unforeseen cost or expense
that could affect the lender's yield or spread

e) Conditions Precedent - contains any act that either or all of the parties to a loan agreement have to do or must comply with

f) Covenants - covenants may either be positive or negative. Positive covenants are those that require the lender to do something that is
agreed upon. Negative covenants are statements of what the borrower is not allowed to do during the validity of the loan agreement

g) Default Provisions - provides for the instances wherein the borrower may be declared in default, making the entire amount in the loan
agreement due and demandable

h) Provisions on the Agent/Managers - usually found where there are multiple lenders. A manager lender is named and he will perform
tasks assigned him as the manager

i) Miscellaneous Provisions - found at the end of a loan agreement and state other matters of the loan agreement such as the judgment
currency clause, the designation of venue of the court and what law would apply
16. What is a material adverse change default clause?: It is a clause providing for the default of the lender, making the payment of the
loan due and demandable, under the condition of a material change adverse in the sense that the change may affect the borrower's
ability to pay the loan and the interest.
17. What is an aval? Can a bank be an avalista?: Under the Code of Commerce, an aval is a form of guarantee for the payment of drafts
already accepted by the drawee. It comes from the French word "foot or bottom" and its terms are usually written down by the avalista
on the draft itself - at the foot of the draft or at the side thereof.

A bank can be an avalista. Before the passage of the General Banking Law, it was conventional wisdom that a local bank could not be an
avalista, because an aval is a guarantee. With the repeal of Section 74 of the General Banking Act, there is not doubt that a local bank can
avalize a draft.
18. What is a negative pledge?: It is a clause promising that the borrower will not secure other loans it has or will have with a pledge. This is a
way of enforcing the pari passu representation because when a borrower effects a pledge to secure one loan, all other loans give way to
such preferred secured loans.
19. What is a sharing clause?: This clause ensures that the lender shares in recovery of one lender from the borrower when the borrower
becomes insolvent. This ensures that the lender who is able to recover will share whatever he has recovered to all lenders, in proportion
to the debt of the borrower.
20. What is a silent participation?: Silent participation is when the lender transfers the beneficial title to a loan to a "participant", while
retaining legal title to the loan, without the knowledge of the borrower. In such transaction, the lending bank becomes a collecting bank
of the participant. Payment by the borrower extinguishes the obligation and the participant has no recourse against the borrower. If
made a fronting transaction, the participant benefits from the tax benefits of the original lender.
21. What is moral hazard?: Moral hazard is the paradox that, when a person is insured against risk, consideration of morality or ethics
(which would otherwise restrain him from increasing such risk) are eroded by the very assurance against risk provided by the insurer.
22. What is the significance of RA 8183?: RA 8183 repealed the Uniform Currency Act. Prior to the enactment of RA 8183, provisions in
contracts providing for payment other than in Philippine pesos are void. The enactment of RA 8183 now allows for payment in currencies
other than in Philippine peso. The law is significant in view of the problem arising from inclusion of a judgment currency clause in loan
agreements. These are issues on res judicata and splitting of cause of action. With RA 8183, business agreements and transactions could
now have provisions for payment in other currencies.
23. What is the so-called "independence principle" in a letter-of-credit transaction? Is this absolute?: The "independence principle" in
a letter-of-credit transaction, as elucidated by the Supreme Court in the cases of FEATI and Transfield, states that the obligations of the
parties to a letter of credit are independent of the obligations of the parties to the underlying transaction. It is described as
"documentary" because the parties thereto only deal with documents to demand or make payment, without regard to the underlying
transaction involving goods or services. It is based on UCP 600 which states that a credit is a separate transaction from the sale or other
contract on which it may be based. If the beneficiary has strictly complied with the terms of the letter of credit and the presentation of the
requisite documents, the issuing or paying bank has no recourse but to pay the beneficiary, notwithstanding any disagreement arising
from the underlying transaction.

No it is not absolute. Fraud is an exception to the independence principle as ruled by the Supreme Court in the case of Transfield v. LHC.
Injunction should not be granted unless 1) there is clear proof of fraud 2) the fraud constitutes fraudulent abuse of the independent
purpose of the letter of credit and not only fraud under the main agreement and 3) irreparable injury might follow if injunction is not
granted or the recovery of damages would be seriously damaged.
24. Would you classify "deposit-substitute taking" as core banking function? Why?: Section 3 of the GBL defines a bank as an
institution engaged in lending funds obtained from depositors. Implied in the definition are the 2 core functions of a bank: lending and
borrowing. Deposit-substitute taking may be considered a core banking function because universal and commercial banks are not
required to get a separate license to engage in deposit-substitute taking.