Legal Articles

Doctrine of Equitable Set-Off: Approach of Indian Courts

It is quite common in commercial contracts for Defendant to claim a set off against the claim of the Plaintiff. Quite often, set-off is confused with adjustment and both terms are used interchangeably. Delhi High Court in its judgement in Cofex Exports Ltd. Ltd. Vs. Canara Bank1, elaborated on the distinction between ‘set-off’ and ‘adjustment’, which is discussed later.

Set-off is a debtor’s right to reduce the amount of a debt by any sum the creditor owes the debtor. The concept of set-off is well recognized under Order VIII Rule 6 of the Code of Civil Procedure (CPC). Set-off under CPC is a legal set-off and following conditions are a pre-requisite for claiming legal set-off. Firstly, the claim for set-off has to be in a suit for recovery of money and the said claim of set-off has to be for ascertained sum of money which is legally recoverable from the plaintiff. Secondly, both the parties must fill the same character in respect of the two claims sought to be set-off or adjusted.

On the other hand, there is the concept of equitable set-off, which is a claim under common law, based on the principles of equity, justice and good conscience. The doctrine of equitable set-off, though originating from the courts of equity in England, has been part of Indian jurisprudence from the very beginning. However, when a plea of equitable set-off is raised, it cannot be claimed as a matter of right and the discretion lies with the court to entertain and allow such a plea or not.

In its 1952 judgement in the case of Raja Bhupendra Narain Singha Bahadur Vs. Maharaj Bahadur Singh2, Supreme Court elaborately discussed the doctrine of equitable set-off. It was held by the Supreme Court that since the plea of set-off was based on different cause of action, the doctrine of equitable set-off could not be invoked, as the cross demands did not arise out of same transaction. The Supreme Court further held that the Appellant was not entitled to the relief of equitable set-off on the ground that the Appellant being a wrongdoer, who wrongfully withheld the property from the Respondent, cannot invoke any principle of equity in his favour.

In Union of India Vs. Karam Chand Thapar3, the issue before the Supreme Court was whether Central Government could claim an equitable set-off in respect of its statutory obligation in the form of stowing assistance payable to the contractor against the royalty payable to the Central Government by the contractor. After analyzing the entire law on equitable set-off, Supreme Court held that the two claims viz. royalty and stowing assistance do not arise out of the same transaction and hence, there cannot be any equitable set-off.

The Division Bench of Delhi High Court in Cofex Exports Ltd. Ltd. Vs. Canara Bank, supra, explained the difference between adjustment, set-off and counter claim. An adjustment contemplates existence of mutual demands between the same parties in the same capacity. However, adjustment has to take place before filing of written statement, though benefit is claimed as a defence by raising a plea in the written statement, which if upheld has the effect of mitigating out the Plaintiff’s claim on the date of the suit itself. On the other hand, a set-off or counter claim is in the nature of a cross claim made by the defendant, which if upheld, would have the effect of a decree in favour of the defendant, exonerating the defendant from honoring plaintiff’s claims, though upheld by court. The Division Bench further held that equitable set-off stands at a lower pedestal than the plea of legal set-off as it cannot be claimed as a matter of right. Equitable set-off is a discretionary remedy and lies within the discretion of the court.

The abovesaid judgement has been further clarified in yet another judgement passed by Division Bench of Delhi High Court in Walchandnagar Industries Ltd. Vs. Cement Corporation of India4. The Division Bench clarified that in case of adjustment neither limitation applies, nor court fee is payable, whereas, with respect to defence of counter claim and set-off, law of limitation will apply and court fee is payable.

Analysis of the judgements passed by various courts on the principle of equitable set-off reveals that, being an equitable and discretionary relief, there is subjectivity involved in its application. But, courts have by and large culled out the basic principles when the benefit of equitable set-off should be given to a Defendant.

One of the issues that requires consideration is whether law of limitation would apply in a claim of an equitable set-off. Though the position is clear that limitation would apply in the case of a legal set-off or counter claim, there is no such clarity with respect to a claim under equitable set-off. In fact, Section 3 of the Limitation Act, 1963 specifically provides for ‘claim by way of set-off or counter-claim’, for the purposes of computing limitation.

A Division Bench of Calcutta High Court, in the case of Peerless General Finance and Investment Vs. Jitendra Kumar Khan5, took a view that the bar of limitation will not apply in the case of a claim of equitable set-off. This view found support in the Delhi High Court judgement in Gunjan Sinha Vs. Registrar General, Delhi High Court.6

The Calcutta High Court judgement in Peerless General Finance and Investment supra, was taken up in appeal before the Supreme Court, where the issue discussed was whether the claim in question was a legal set-off or equitable set-off. While examining the issue, the Supreme Court reiterated the principles of equitable set-off, in following terms (1) equitable set off is distinct from legal set-off, (2) it is independent of the Code of Civil Provision, (3) mutual debts and credits or cross-demands must have arisen out of the same transaction or to be connected in the nature and circumstances, (4) such a plea cannot be raised as a matter of right and the discretion lies with the court, (5) it is founded on fundamental principles of equity, justice and good conscience, (6) discretion to be exercised in equitable manner, and (7) equitable set-off cannot be allowed where protracted enquiry is required for determination of the sum due.

The issue whether law of limitation would apply to claim of equitable set-off was not considered by the Supreme Court in Peerless General Finance and Investment case, supra as perhaps it was not raised. Even the Delhi High Court judgement in Walchandnagar case, supra, while holding that law of limitation would apply to set-off, did not specifically deal with issue whether limitation would apply to a claim of equitable set-off. Since the claim of equitable set-off is frequently taken up as a defence in commercial contracts, it is required that there is an authoritative pronouncement by the Supreme Court to settle this issue in order to have certainty in resolution of disputes arising out of commercial contracts.

*Author is a practicing advocate at the High Court of Delhi with over 25 years of standing.
1. 1997(43) Delhi Reported Judgements 754
2. AIR 1952 SC 201
3. 2004 (3) SCC 504
4. 2012 (2) Arbitration Law Reporter 219 (Delhi)
5. 2004 (4) Calcutta High Court Notes 255
6. 2012 (188) Delhi Law Times 627(DB)
7. 2013 (8) SCC 769

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