Set-off (law)
In law, a set-off is an equitable defence to the whole or to a portion of a plaintiff's claim. A set-off is the right of a debtor to balance mutual debts with a creditor. In bookkeeping terms, set-offs are also known as reconciliations. To determine a set-off, simply subtract the smaller debt from the larger. Any balance remaining due either of the parties is still owed, but the remainder of the mutual debts has been set off.
- The legal defense of set-off (above) was originally introduced to prevent the unfair situation whereby a person ("Party A") who owed money to another ("Party B") could be sent to debtors' prison, despite the fact that Party B also owed money to Party A. The law thus allows both parties to defer payment until their respective claims have been heard in court. Upon judgment, both claims are extinguished and replaced by a single net sum owing (e.g. If Party A owes Party B 100 and Party B owes Party A 105, the two sums are set off and replaced with a single obligation of 5 from Party B to Party A).
- Set-off can also be incorporated by contractual agreement so that, where a party defaults, the mutual amounts owing are automatically set off and extinguished.
- In certain jurisdictions (including the UK[1]), set-off takes place automatically upon the insolvency of a company. This means that, for each party which is both a creditor and debtor of the insolvent company, mutual debts are set-off against each other, and then either the bankrupt's creditor can claim the balance in the bankruptcy or the trustee in bankruptcy can ask for the balance remaining to be paid, depending on which side owed the most. This has been criticized as an undeclared security interest that violates the principle of pari passu. The alternative, where a creditor has to pay all its debts, but receive only a limited portion of the leftover moneys that other unsecured creditors get, poses the danger of 'knock-on' insolvencies.
The right to set off is particularly important when reporting a bank's exposures to regulatory authorities. The situation where a bank has to report that it has lent a large sum to a borrower (and is therefore exposed, because there is a risk that the borrower might default thereby leading to the loss of the bank's or its depositors' money) is thus replaced (where the bank has taken security over shares or securities of the borrower) with an exposure of the money lent minus the value of the security taken.
English law set-off
Under English law, there are broadly four types of set-off which have been recognised:[2]
- Legal set-off. This arises where a claim and a counterclaim in a court action are both liquidated sums or ascertained with certainty. In such cases the court will simply set-off the amounts and award a net sum. The two claims do not need to be intrinsically connected.
- Equitable set-off. Outside of litigation, where two mutual claims arise out of the same matter or a sufficiently closely related matter, they will set off in equity. Both sums must be due and payable, but may be for liquidated or unliquidated sums.
- Banker’s set-off. Sometimes referred to as a banker's right to combine accounts, this is a special form of set-off which allows banks to offset sums in one account against another account which is overdrawn.[3] However, the right cannot be exercised if one of the accounts is a loan account, or if the bank has agreed not to exercise the right, or if the bank has notice that the sums in the account are for a specific purpose,[4] or on trust for another party.
- Insolvency set-off. Under section 323 of the Insolvency Act 1986[5] where a person goes into bankruptcy or a company goes into liquidation mutual debts are automatically set-off.
US law set-off
See De Magno v. United States, 636 F.2d 714, 727 (D.C. Cir. 1980) (district court had jurisdiction over claim involving VA’s “affirmative action against an individual whether by bringing an action to recover on an asserted claim or by proceeding on its common-law right of set-off”) (discussing similar language of predecessor statute, 38 U.S.C. § 211)
See, e.g., United States v. Munsey Trust Co., 332 U.S. 234, 239, 67 S.Ct. 1599, 1601, 91 L.Ed. 2022 (1947) ("government has the same right 'which belongs to every creditor, to apply the unappropriated moneys of his debtor, in his hands, in extinguishment of the debts due to him' " (quoting Gratiot v. United States, 40 U.S. (15 Pet.) 336, 370, 10 L.Ed. 759 (1841))); see also Tatelbaum v. United States, 10 Cl.Ct. 207, 210 (1986) (set-off right is inherent in the United States government and grounded on common law right of every creditor to set off debts).
See also
References
- ↑ Insolvency Act 1986, section 323; Insolvency Rules 1986, rule 4.90.
- ↑ "Practical Law: set-off". Thompson Reuters. Retrieved 11 May 2016.
- ↑ National Westminster Bank Ltd v Halesowen Presswork & Assemblies Ltd [1972] AC 785
- ↑ Barclays Bank Ltd v Quistclose Investments Ltd [1968] UKHL 4
- ↑ Rule 4.90 of the Insolvency Rules 1986 for companies.
This article incorporates text from a publication now in the public domain: Chisholm, Hugh, ed. (1911). "article name needed". Encyclopædia Britannica (11th ed.). Cambridge University Press.