Set-Off Clauses in Contracts: A Plain-English Guide
What Is a Set-Off Clause?
A set-off clause gives one party the right to deduct amounts the other party owes them from payments they would otherwise make. If Party A owes Party B $10,000 for services, but Party B owes Party A $3,000 for damages, a set-off clause lets Party A pay only $7,000.
Set-off rights exist at common law and in equity, but a contractual set-off clause defines exactly when and how the right can be exercised, often expanding it beyond what the law would normally allow.
Where Set-Off Clauses Appear
- Loan agreements: Lenders can apply borrower deposits against overdue loan payments
- Supply contracts: Buyers deduct penalties for late delivery from invoices
- Construction contracts: Owners withhold payment for defective work costs
- Master service agreements: Clients offset credits from one project against amounts due on another
Key Risks to Watch
- No notice requirement: Some clauses let a party set off amounts without prior notice, which can cause cash flow surprises
- Disputed amounts: A broad set-off clause may allow deduction of disputed or unliquidated claims, not just settled debts
- Cross-agreement set-off: Some clauses allow offsets from entirely separate contracts between the parties, which dramatically expands the right
- One-sided language: If only one party has the right to set off, the clause creates an imbalance
Practical Implications
A set-off clause can significantly affect cash flow. If you are a service provider or contractor, an unchecked set-off right means your client can reduce payments based on their own assessment of what you owe — even if you disagree.
When to Consult a Lawyer
If a contract gives the other party broad set-off rights, especially across multiple agreements or for disputed amounts, consider having an attorney negotiate guardrails like notice periods and dispute resolution requirements before set-off can occur.
This article is for informational purposes only and does not constitute legal advice. Consult a licensed attorney for guidance specific to your situation.