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What Is a Set-Off Clause?

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  • Written By: Esther Ejim
  • Edited By: Kaci Lane Hindman
  • Last Modified Date: 24 November 2016
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A set-off clause is a term that is widely used in financial situations where the money owed to one party is withheld by another in the quest by the other party to collect on an outstanding debt owed. This means that in a contractual agreement between parties where money is involved a set-off clause could be included in the wording of the contract to allow one party to collect on any debt owed by the other party. Usually, this involves cases where a clear amount is indicated in the contractual agreement or in any dispute between a debtor and a creditor.

An example of the application of a set-off clause is the one that occurs in the dealings of banks and borrowers, whereby a bank can use this type of clause to collect on any debt owed the bank by the borrower through the appropriation of any money or assets owned by the defaulting borrower in the banks possession. For instance, if ABC company borrows $100,000 US Dollars (USD) from a bank and has $50,000 USD in deposits, the bank could apply such a clause to recover part of the money if ABC should default in repaying the loan. As such, the bank would seize the $50,000 USD deposited in the bank by ABC, while engaging in other methods to recover the remaining $50,000 USD, plus any interests.

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Even employers can apply a set-off clause in their relationship with their employees using the same parameters as that between the bank and ABC company. Assuming an employee borrows some money from an employer with the promise to repay the money in installments over a stated period and fails to make those repayments, the employer could withdraw the money owed by the employee from the employee's paycheck through a set-off clause. The employer could decide to withhold a certain percentage of the employee’s net pay until the money is paid off.

In the construction industry, the application of this clause is widely used in the various relationships between stated individuals. For instance, the clause could be used by an architect in his or her dealings with the contractor. In the same way, the contractor could use the set-off clause when dealing with subcontractors in terms of any outstanding financial payments. Also, the money that can be subtracted under this type of clause, which can be claimed by any of these individuals, has to be clearly defined or has to be in a liquid form.

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