Commercial and technology contracts legal A-Z: S is for set-off

Commercial and technology contracts legal A-Z: S is for set-off

Advising Specialist Risk Group on the Acquisition of Consort Insurance

A common way for set-off to crop up is where it is dealt with expressly in the contract. This type of right of set-off is known as contractual set-off. For example, a purchaser of goods may want the contract to expressly say that the purchaser can deduct from the price payable for any goods or services agreed to be provided, any sums due to, or claimed by, the purchaser, from the supplier, e.g. for defects in goods supplied. 

Whether such a right is included in a contract is a matter for commercial negotiation between the parties. In the above example, even if both parties are given set-off rights, it is often more likely to favour the purchaser, as the party paying the price to the supplier, rather than the other way around. A supplier is generally more concerned to ensure it is paid in full on time, and is therefore more likely to wish to exclude set-off rights.

If set-off is not addressed in the contract at all, set-off rights can still arise under the general law, but the position can be less clear.

A right of equitable set-off may be available outside of the terms of the contract. This arises where the two transactions being “set off” are very closely associated. In our previous example, if the supplier sued for the price of the goods supplied, the purchaser may be able to deduct the amount of its cross-claim from the sum due to the supplier and pay only the balance, even though that the contract is silent.

But – if the purchaser’s claim is not so closely related, for example it relates to some services paid for, but which were never provided by the supplier, then equitable set-off is much less likely to apply. An appropriately worded contractual right of set-off could cover this situation, which shows the benefit of dealing with the issue expressly.

In addition to equitable set-off, other special rights of set-off may be available in particular circumstances. These include legal set-off in the context of litigation, which may be ordered by the court, so that only the balance due between the parties is paid over, bankers’ set-off where banks have a right to effectively “combine accounts” and insolvency set-off particular to insolvency scenarios.

So, when considering payment and remedies under any commercial arrangement, the parties will need to decide whether one or both parties should have a right of contractual set-off, and the scope of that, or conversely whether any rights of set-off should be excluded. 

For more information, please contact Stephanie Craig or another member of the commercial contracts team at Stevens & Bolton LLP.

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