RIGHT OF SET-OFF IN BANKING LAW 

1. Meaning of Set-off

In simple terms,
Set-off means adjusting one debt against another.

👉 When two parties owe money to each other, the amount due from one can be adjusted against the amount due to the other — instead of making two separate payments.

📘 Banking Context:

In banking, the Right of Set-off allows a bank to use the money lying in a customer’s account to recover the dues the customer owes to the bank.

In short: If a customer owes money to the bank (for example, a loan), and at the same time the customer has money in any of his accounts with the bank,
the bank can adjust (set off) the customer’s deposit balance against his loan dues.

2. Simple Everyday Example

Let’s say:

• Mr. A has ₹2 lakh in his Savings Account with XYZ Bank.
• He also owes ₹1.5 lakh to the same bank for a Personal Loan that has become overdue.

✅ The bank can set off ₹1.5 lakh from Mr. A’s savings account and adjust it against the outstanding loan.
After adjustment, his savings account balance will reduce to ₹50,000.

3. Legal Foundation

The Right of Set-off is based on the general principles of justice, equity, and good conscience, and it is recognized under:

• Contract law (Indian Contract Act, 1872) — mutual debts can be set off;
• Banking custom — accepted as a banker’s implied right;
• Judicial recognition — several court decisions have confirmed it as a legitimate banking practice.

4. Nature of the Right

5. Conditions for Exercising Right of Set-off

For a bank to use this right, certain legal and practical conditions must be met 👇

✅ (1) Mutual Debts

• Both the customer and the bank must owe each other money.
• Example: Customer’s deposit = bank’s debt to customer; Loan = customer’s debt to bank.

✅ (2) Same Capacity

• The debts must be due in the same right and same capacity.
  Example:
  • If money is in customer’s personal account → can’t be set off against company loan.
  • If account is held in trust, fiduciary, or joint name → bank cannot set it off against individual loan.

✅ (3) Debts Must Be Due

• The loan or debt must be actually due and payable (i.e., not a future or contingent liability).
• Example: Bank can’t set off before the loan due date unless the customer defaults.

✅ (4) No Agreement to the Contrary

• If the bank and customer have an agreement saying “no set-off,” then the bank cannot exercise it.

✅ (5) No Prejudice to Third Party Rights

• The right cannot be used to harm the interest of others (like joint account holders, guarantors, or trust beneficiaries).

6. How It Works – Step-by-Step 

1. Loan becomes due → customer fails to pay.
2. Bank checks whether the same customer has credit balance in any other account.
3. Bank verifies the conditions (same name, same right, debt due).
4. Bank gives intimation or records adjustment internally (debiting the deposit and crediting the loan).
5. Entry is made in books — the debt stands adjusted (partly or fully).
6. Bank informs the customer of the set-off.

7. Examples of Set-off in Practice

Example 1: Individual Case

Mr. X has:

• ₹1,00,000 in his Current Account, and
• An overdue loan of ₹80,000.

✅ Bank can use its Right of Set-off to recover ₹80,000 from the current account.

Example 2: Joint Account Case

Mr. A and Mr. B have a joint account with ₹1,00,000.
Mr. A alone owes ₹50,000 loan to the bank.

❌ Bank cannot set off from the joint account,
because the debt (loan) is in A’s name only, but the deposit is in joint names.

Example 3: Different Capacity

Mr. A is a trustee of an account (Trust Account) but also has a personal loan.

❌ Bank cannot set off money from the trust account to repay A’s personal loan,
because the capacities are different — trustee vs individual.

Example 4: Right of Set-off before Garnishee Order

If the bank receives a Garnishee Order from a court attaching a customer’s account,
but the bank has its own dues (loan/overdraft) already due,
the bank can first exercise its Right of Set-off, and only the remaining balance (if any) is subject to the court’s order.

✅ The bank’s right of set-off has priority over a Garnishee Order.

8. Important Judicial Rulings

1. State Bank of India v. Collector of Customs (2000):
   The bank’s right of set-off has priority over a Garnishee Order.
2. Syndicate Bank v. Vijay Kumar (1992):
   A bank can exercise set-off only when both debts are certain, due, and in same capacity.
3. Punjab National Bank v. Arura Mal Durga Dass (1960):
   The right of set-off arises from mutual obligations between the banker and the customer.

9. Types of Set-off

10. Difference Between Set-off and Lien

11. Precautions for Banks

Before exercising set-off, banks must:

1. Confirm that the loan is due.
2. Ensure same name and same right in both accounts.
3. Check joint accounts – not allowed if debt is single name.
4. Give notice (preferably in writing) to avoid disputes.
5. Keep proper record entries in books.
6. Avoid set-off in trust or fiduciary accounts.

12. Limitations of Set-off

• Cannot be used for future or contingent debts.
• Cannot be used when funds are held in trust or on behalf of someone else.
• Cannot be used for fixed deposits pledged as security (until lien satisfied).
• Cannot override court orders like attachment or insolvency proceedings once those take effect.

13. Effect of Insolvency or Death

• After Insolvency: The right of set-off can be exercised only for debts due before insolvency.
• After Death: The bank may set off debts due before death against money in account, but must act carefully regarding legal heirs or executors.

14. Why It’s Important for Banks

The Right of Set-off protects the bank’s financial interest and reduces the risk of non-recovery.
Without this right, banks might lose money to customers who maintain deposits but don’t repay loans.

✅ It’s one of the key self-help remedies for banks, meaning they don’t need court intervention.

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