Part I Introduction, 1 Introductory Remarks
Pascal Pichonnaz, Louise Gullifer
- Cross-claims — Insolvency set-off
Beyond set-off by agreement
1.02 The mechanism may seem very simple, especially when parties agree on ways to set-off or discharge their reciprocal claims, be it through set-off by agreement or by a sophisticated regime of netting clauses. Set-off, and particularly conventional set-off, is thus part of the everyday life of commercial matters.
Understanding default rules on set-off
1.03 Parties, however, do not always agree on discharging reciprocal claims. It might be that one or several claims are contested; it might be that they could not agree on set-off in advance, either because they did not think of it, or because their reciprocal claims do not derive from the same contract. Indeed, most legal systems accept that claims deriving from different causes of action may be set-off one against the other, whether or not they are of a contractual nature—such as claims based on unjust enrichment or on tort. In that event, the default rules on set-off become important, since they determine under which requirements and from what moment reciprocal claims may be discharged. This issue—often quite technical—has been analysed in various legal systems, sometimes in great detail;1 however, this has often been carried out as a purely domestic analysis.
1.04 The subject has gained importance and has triggered an increased interest in legal writings and amongst practitioners both due to the internationalization of business and the growing recourse to arbitration to solve commercial disputes. This has enhanced the difficulties and therefore calls for a new analysis of the situation.
1.05 On the one hand, practitioners have different pre-understandings of the requirements of set-off, since their domestic systems may vary considerably. For instance, despite some common roots in ancient Roman law and its joint evolution during the Middle Ages—at least for the civil law systems2—the black-letter rules of the civil codes3 diverge significantly in their requirements and the way set-off operates. Domestic case law has to some extent triggered convergence on many issues, but methodology and solutions continue to diverge between legal systems. It has, therefore, become important to gain an insight into these commonalities and divergences, not only between the common law (especially English law) and civil law, but also within civil law systems. This comparative perspective is important for both academics and practitioners, since the factual problems are similar, even though the answers may vary. In order to integrate these variations into a broader picture, it is necessary first to recognize them and then to assess why the differences are significant.
(p. 5) 1.06 On the other hand, parties to international commercial contracts often choose to have their disputes heard by an arbitral tribunal rather than State courts. This triggers difficult issues related to the question of which claim(s) might be taken into account by arbitrators if a party wants to rely upon set-off. When set-off is considered to be of a substantive nature—that is, when it operates irrespective of whether an action is brought—the interaction with procedural rules of arbitration triggers a number of difficulties, among which is the question of whether and at what stage the defence of set-off must be raised. The problems are even more acute when set-off is considered as a procedural device, which necessarily depends on a judicial decision; it is not always clear to what extent the arbitral rules will have an impact on the availability of set-off for the parties. Indeed, some procedural rules on arbitration are more open to set-off than others. A recent trend is to make set-off available as widely as possible, as is the case with the Swiss rules on arbitration (Art 19 para 3) and the revised UNCITRAL Rules (Art 21 para 3).4 Moreover, the opening of insolvency proceedings against one party may change the rules applicable to set-off and have a direct impact on the implied expectation of the parties as to the applicable regime of set-off.
Growing unified principles
1.07 Given the variety of requirements for the set-off of reciprocal claims within a national system, variations in how set-off operates, and the impact of agreed arbitration rules on the anticipated regime of set-off, parties may have to take set-off mechanisms into consideration when choosing the applicable law for their contract. In the absence of any agreement as to choice of law, the conflict of law rules remain of fundamental importance, and for this reason there have been various attempts made to unify such rules, such as the Rome I Regulation for EU Member States.5 At the same time, various endeavours have been made to define common principles of set-off, which would be applicable to any (commercial) contract. This idea has been developed on a large scale by the UNIDROIT Principles of International Commercial Contracts (PICC),6 in which chapter 8 deals specifically with set-off, discussed from a comparative perspective in the accompanying commentary.7 Further endeavours have taken place in Europe, by way of the Principles of European Contract Law (PECL),8 which also deal specifically with set-off (chapter 13), and the Draft Common Frame of (p. 6) Reference (DCFR),9 which has also attempted to adopt proposals for a common set of rules on set-off (chapter 6.1).
Identifying problems and differences
1.08 For practitioners dealing with commercial transactions, it is therefore of fundamental importance not only to identify problems and risks linked to set-off sufficiently early, but also to understand the different legal attitudes between civil and common law systems with respect to set-off. For instance, English law considers that set-off aims primarily to avoid circuity of action and focuses far more on insolvency set-off, since the principal advantage of set-off lies in the ‘security’ it constitutes. Civil law regimes consider set-off primarily as a mode of payment, which remains valid after the insolvency of one of the parties. In contrast, under English law it is seen as either procedural (independent set-off) or substantive, although not amounting to payment (transaction set-off) while both parties are solvent, but automatic, mandatory, and extremely wide on the insolvency of one or both parties.
1.09 Equally, academics need to grasp these fundamental differences in attitude in order to identify the variations in set-off rules from a wider perspective. Hence, this book has been written by two authors: one rooted in civil law, the other in English law. The two perspectives are intended to guarantee a certain degree of internal understanding of why the rules operate as they do.
1.10 The aim of this book is therefore twofold. First, it should help academics and practitioners to identify rapidly possible problems linked with set-off, and indicate the initial paths towards potential solutions. The book does not aim to give a detailed account of every legal system referred to. Instead, by identifying the main features of the respective national systems, it attempts to highlight the key points that may arise in relation to set-off both in the course of drafting a contract, in deciding which law should be applicable to a specific problem, and in conducting arbitral or court proceedings, and proposes potential solutions. Clearly, nothing can replace a national account of a national system; however, the book is intended to be of assistance to both academics and practitioners faced with issues involving set-off.
1.11 Secondly, the book aims to underline not only the significant differences in approach between civil and common law, but also between various civil law regimes—a further reason why the book has been written by both a civil lawyer and a common lawyer. This aim also explains why the book deals primarily with English law, and not with the common law applicable in countries outside Europe. In addition, it would be possible, either on a practical or a theoretical basis, to give (p. 7) an account of all civil law regimes, within Europe or even outside its boundaries. Consequently, the focus is primarily on a few notable jurisdictions, such as French law, influenced with regard to set-off by a natural law understanding, and German law, influenced by the German historical school, which had a fundamentally different understanding of set-off. Italian law—included as a regime of set-off which was influenced by French law and, in a second phase, by German conceptions—presents an interesting study. Finally, Swiss law is frequently cited, not only because one author of the book is a Swiss lawyer, but also because Swiss law is often chosen as the applicable law for commercial contracts and because Switzerland is a prominent country for arbitration. It makes sense, therefore, also to analyse set-off with regard to Switzerland.
1.13 When it is of a procedural nature,10 set-off will be affected by the issue of jurisdiction. The procedural rules of any given system may then directly affect the ability to set off or its requirements. However, even when set-off is of a substantive nature,11 jurisdictional questions may be raised, since a party relying upon set-off will have to invoke the discharging effect of set-off according to specific procedural rules. For that reason, the place of arbitration or the jurisdiction is always of significance. Moreover, since set-off is often relied upon in claims arising from different contracts, or even in relation to claims of different causes of action, we address the question of whether an arbitral tribunal can take into account cross-claims not covered by the arbitral clause. Of course, this book cannot give an account of all civil procedural issues which could be raised, but it does address the most important questions. Issues of set-off arise when there is a main claim and a cross-claim, which always raises the question of which court has jurisdiction over one or the other claim. This will have a direct impact on the availability of set-off and for that reason, we have dealt with the European Regulations in that respect.
Applicable law (conflict of law rules)
1.14 In commercial contracts, parties may have chosen the applicable law by inserting a choice of law clause. However, despite such precautions in order to ascertain which law will be applicable to any future dispute, set-off creates further difficulties. Indeed, the choice of law clause may not be applicable to set-off when the cross-claim is based on a different contract or is non-contractual. Hence, it is important to analyse the default rule on conflict of laws in relation to set-off. Again, doctrinal approaches differ, and so too do domestic approaches on which law should apply to set-off. Hence, it is important briefly to analyse the solution adopted by Art 17 Rome I Regulation. It helps, then, (p. 8) to predict—at least to some extent—which law might apply to set-off in various situations.
1.15 Since the PICC are intended to be applicable to international commercial contracts, be it by means of express choice of law or by reference to General Principles, the book also considers the PICC, thereby giving some insight to parties prior to the conclusion of a contract. Detailed study of this area is dealt with in the analysis of substantive requirements.
1.16 Finally, even if the parties have chosen an applicable law, one party may become insolvent. The opening of insolvency proceedings against one party may then have a direct impact on the applicable law on set-off. Indeed, by virtue of EU Regulation No 1346/2000 on insolvency proceedings,12 which law is applicable to the issue of set-off may be affected by the law applicable to the insolvency proceedings. Therefore, even if one party has relied upon set-off during arbitral proceedings, the opening of insolvency proceedings may radically alter the situation. An arbitral tribunal may not only have to suspend its work during the preliminary stages because the insolvent party may no longer be entitled (at least initially) to proceed,13 but the claims considered in arbitration may even be extinguished due to rules applicable to set-off in the insolvency proceedings.14 Indeed, if English law is applicable to the insolvency proceedings, insolvency set-off will operate automatically and discharge the main claim and cross-claim without the parties being able to prevent it; as a result, the arbitral proceedings may be directly affected. The conflict of law rules in matters of insolvency proceedings cannot therefore be neglected.
1.17 The substantive requirements of set-off depend largely on the type of set-off in English law and in civil law. Consequently, it is important to understand the fundamental differences between these variations.15 The book thus provides a general understanding of how set-off operates under certain civil jurisdictions, and also discusses the various types of set-off under English law.
1.18 Other specific similarities and differences between English law and the civil law are also discussed. Although mutuality of the main claim and cross-claim is fundamental to any type of set-off, understandings of this requirement vary between (p. 9) civil and English law, especially in matters of trust and assignment. It should therefore not be presumed that parties (or authors of doctrinal works) using the term ‘mutuality’ necessarily mean the same thing. A central aspect of the requirements of set-off is to determine whether the main claim and the cross-claim have to arise out of the same contract, have to be merely closely connected, or whether this has no relevance. This requirement is fundamental for English set-off, but is often less important for set-off in civil law. Whether a reciprocal claim has matured is, on the contrary, less of an issue in English law, whereas it may play a role as to which party may rely upon set-off and at what point in time. This is also true for the requirement of enforceability of claims, especially in respect of the period of limitation, which is dealt with to some degree in the book. Finally, a recurrent issue in international contracts is to determine whether claims in different currencies may be set-off against each other and, if so, which claim should be converted in order to enable set-off and at what conversion rate. National understandings of this requirement, central for international commercial contracts, are often discussed in very different ways in the various national systems. In that regard, the PICC provided interesting ways to proceed.
1.19 Set-off and insolvency is the subject of the final part of the book. It is not only important to determine what happens to judicial or arbitration proceedings when a party enters into insolvency proceedings, but also to realize that the requirements for set-off may change radically. The lex fori concursus may impact on requirements,16 but also, sometimes, insolvency triggers a different regime of set-off, in particular under English law. While, under English law, a party has to rely explicitly upon set-off prior to insolvency proceedings, the opening of insolvency proceedings has the effect that set-off operates without declaration and automatically. Additionally, since insolvency set-off is mandatory,17 parties cannot exclude its operation by agreement, either before or after the commencement of insolvency proceedings. It might therefore be important to take preventive measures in order either to postpone the commencement of insolvency proceedings or to take into account the requirements that might change on such commencement. This is central, since set-off frequently plays a role as a type of security interest in the light of the insolvency proceedings. Indeed, thanks to set-off, the creditor of a claim against the insolvent party not only receives a percentage of the claim, but effectively receives the full amount of its claim in relation to the part that can be set-off against a cross-claim owed to the insolvent party.
1.20 The structure of the book therefore gives a kind of road map of issues and specific problems that arise with regard to set-off. It will help the work not only of practitioners, but also of academics to avoid focusing only on some specifics issues, whilst (p. 10) missing the procedural aspects of set-off with regard to international contracts subject to judicial or arbitral proceedings.
Statutes and other material on set-off
1.21 To make the book more practical, some important provisions on set-off have been included in the appendices. These cover the most important provisions in relation to set-off with regard to the domestic systems and arbitral rules which play a role mainly in the European context.
1 Among others for English law, see Rory Derham, Derham on the Law of Set-Off (4th edn, Oxford: OUP, 2010); Philip R. Wood, English and International Set-Off (London: Sweet & Maxwell, 1989); as well as Sheelagh McCracken, The Banker’s Remedy of Set-Off (London/Boston: Butterworths, 1993); Sir Roy Goode, Goode on Legal Problems of Credit and Security (ed Louise Gullifer, 4th edn, London: Thomson Sweet & Maxwell, 2008); for German law, see Christian Grüneberg in Otto Palandt (ed), Bürgerliches Gesetzbuch, Die Aufrechnung (72nd edn, Munich: C. H. Beck, 2013); Martin Schlüter in Franz Jürgen Säcker, Roland Rixecker, and Hartmut Oetker (eds), Münchner Kommentar zum Bürgerlichen Gesetzbuch, Die Aufrechnung (6th edn, Munich C. H. Beck, 2012); Carola Reichold, Aufrechnung nach Vorausabtretung, Ein Beitrag zur Entstehung und Auslegung des § 406 BGB (Berlin: Duncker & Humblot, 2007); for French law, see Lionel Andreu, Réflexions sur la nature juridique de la compensation, RTD com 2009, 655 et seq; François Chabas, Réflexions sur la compensation judiciaire, JCP 1966 I 2026; Anne-Valérie Delozière-Le Fur, La compensation dite multilatérale (Paris: LGDJ, 2003); Guy Duboc, La compensation et les droits des tiers (Paris: LGDJ, 1989); Roger Mendegris, La nature juridique de la compensation (Paris: Librairie générale de droit et de jurisprudence, 1969); Nicole-Claire Ndoko, Les mystères de la compensation, RTD civ 1991, 661 et seq; Myriam Roussille, La compensation multilatérale (Paris: Dalloz, 2006); for Italian law, see Roberta Peleggi, La compensazione: profili di diritto comparato e di diritto del commercio internazionale (Naples: Jovene, 2009); Filippo Nappi, Contributo alla teoria della compensazione, Per una rivisitazione dell’istituto in una prospettiva transnazionale (Turin, Giappichelli, 1999); Elena Merlin, Compensazione e processo (Milan: A. Giuffrè, 1991); Valeria de Lorenzi, ‘Compensazione’ in Digesto IV, discipline privatistiche, sezione civile (Turin: UTET, 1987); Di Prisco, ‘Compensazione’ in Pietro Rescigno (ed), Trattato di diritto private, Vol 9, Obbligazioni e contratti, book 1 (Turin: UTET, 1982); for Swiss law, see Corinne Zellweger-Gutknecht in Heinz Hausheer and Hans Peter Walter (eds), Berner Kommentar, Verrechnung, Art 120–126 OR (Berne: Stämpfli, 2012); Viktor Aepli in Peter Gauch (ed), Zürcher Kommentar, Das Erlöschen der Obligation, Art 114–126 OR (Zurich: Schulthess, 1991); Wolfgang Peter in Heinrich Honsell, Nedim Peter Vogt, and Wolfgang Wiegand (eds), Basler Kommentar, Obligationenrecht I (5th edn, Basel: Helbling & Lichtenhahn, 2011); Nicolas Jeandin in Luc Thévenoz and Franz Werro (eds), Commentaire romand, Code des obligations I (2nd edn, Basel: Helbling & Lichtenhahn, 2012), Art 120 SCO et seq; for Austrian law, see Heinrich Honsell and Albert Heidinger in Michael Schwimann (ed), Praxiskommentar zum ABGB samt Nebengesetzen, Vol VII, § 1293–1502 (2nd edn, Vienna: Orac, 1997), § 1438 ABGB; Silvia Dullinger in Peter Rummel (ed) Kommentar zum Allgemeinen Bürgerlichen Gesetzbuch (3rd edn, Vienna: Manz, 2000), § 1438 ABGB para 14; Heidinger in Schwimann § 1438 ABGB; Silvia Dullinger, Handbuch der Aufrechnung (Vienna: Springer, 1995); Irmgard Reiterer, Die Aufrechnung (Graz: Leykam, 1976).
2 See on the historical foundations of set-off, Pascal Pichonnaz, La compensation. Analyse historique et comparative des modes de compenser non conventionnels (Fribourg: AISUF 208, 2001); Reinhard Zimmermann, ʽ§§387–396. Aufrechnung’ in Mathias Schmoeckel, Joackim Rückert, and Reinhard Zimmermann, Historisch-kritischer Kommentar zum BGB, Band II Schuldrecht: Allgemeiner Teil, 2. Teilband, §§305–402 (Tübingen: Mohr Siebeck, 2007), 2180–249.
4 Pascal Pichonnaz, ‘Chapter 8: Set-off’ in Stefan Vogenauer and Jan Kleinheisterkamp (eds), Commentary on the UNIDROIT Principles of International Commercial Contracts (Oxford: OUP, 2009), Art 8.1 PICC para 19.
9 Study Group on a European Civil Code/Research Group on EC Private Law (Acquis Group), Principles, Definitions and Model Rules of European Private Law, Draft Common Frame of Reference (Munich: Sellier, 2009) (DCFR Outline); see also Study Group on a European Civil Code and Research Group on EC Private Law (Acquis Group), Principles, Definitions and Model Rules of European Private Law, Draft Common Frame of Reference, Full Edition (Munich: Sellier, 2009).
13 See for a presentation, among others, Gabrielle Kaufmann-Kohler and Laurent Lévy, ‘Insolvency and international arbitration’ in Henri Peter, Nicolas Jeandin, and Jason Kilborn, The Challenges of Insolvency Law Reform in the 21st Century (Zurich/Basel/Geneva: Schulthess, 2006), 257 et seq and Vesna Lazić, Insolvency Proceedings and Commercial Arbitration (The Hague: Kluwer Law International, 1998); Michael Günter, Internationale Schiedsgerichtsbarkeit und Insolvenz: zur Berücksichtigung von Insolvenzverfahren und ihren Auswirkungen vor internationalen Schiedsgerichten mit Sitz in der Schweiz (Zurich: Schulthess, 2011), passim.