Today’s contract tip is about setoff provisions. A typical setoff provision in a commercial contract authorizes the customer to deduct from its payments any amount that the vendor owes it. You may be wondering, “How much can the customer deduct?” “From what kinds of payments?” and “What qualifies as being owed?” These provisions often don't address those details, leaving it for the parties to hash out later. When representing customers, I fight hard to get these provisions in my contracts. This authorization provides customers the ability to adjust payments to reflect losses suffered because of the vendor. Why should the customer pay $30 when the vendor owes it $10? The customer prefers to pay the net amount that it owes, which in this example is $20. When I represent vendors, I fight hard against setoff. I consider it one of the most dangerous provisions for a vendor in a contract for the same reasons that customers favor them. These provisions give the customers the contractual authority to make unfettered deductions at their discretion. Whether you have setoff in your contract depends heavily on the bargaining power of the parties. One important note on spelling. You'll see it written as set off, setoff, and set-off. Here's the scoop based on my extensive research (cough - ChatGPT prompt): - Setoff/Set-off (Noun): - In the US, "setoff" is common. In the UK, "set-off" is more common, but "setoff" is also used. Refers to the legal counterclaim or offset. - Set Off (Verb) - Used similarly in both the US and UK. Describes the action of offsetting or beginning a process. What's your approach to setoff provisions? #HowToContract #lawyers #contract
Some jurisdictions have a common law right to set off, so it may be important to exclude this right by way of contractual intent. In my experience, set off can introduce other administrative and compliance issues, including from an accounting perspective. It can be a useful tool for both parties, provided the conditions and rules are clearly prescribed.
I try to strike them. If that fails I limit them and add language about advance noticification and limits
I do the same thing :) Generally, clear definitions of "amounts owed" and the types of payments eligible for setoff can prevent disputes. Also, adding caps on deductions and dispute resolution mechanisms helps maintain a fair balance.
It becomes such an issue with Finance teams that they would have to do manual adjustments to payments, sometimes we do it and sometimes we say screw it and hope it all works out in the end per the contract terms
These are a key provision to include in sales playbooks, but I only see a few companies include. This explanation is so great!
Was thinking about this the other day. Maybe setoff could be the outcome of an agreed dispute resolution process?
Interest topic & great explanation! Also came across several scenarios of wide set-off rights that extend to include amounts under any and all contracts entered into between the client and the service provider.
Quite often owners use this provision as a punitive action. Reasonableness only applies in the good times. Having been on both sides of the fence, I’ve seen most aspects of this provisions application and I see it as a valuable protection measure for the owner that I would definitely want to have. In bad times, Owners will employ this regardless of whether it is contractual or not …… that’s reality. You could have limits placed such as; can’t be applied to the contractor’s bare labour costs excluding overhead and profit. & not to the direct costs of material excluding markup.
In practice, the one owing the money holds the cards. You can have no set offs in a contract, but similar to net payment terms, the company paying the $$ will tend to do what they do. Lived it a million times over. Fight the good fight, and then let finance know they should follow the contract 🤗 but in reality, it’s not often followed as the contract states.
General Counsel at Findex
4moI start from the principle that setoff is reasonable. If I owe you $20 and you owe me $10, why shouldn’t I only have to pay you $10 net?