Set-off Defences in International Commercial Arbitration: A Comparative Analysis 9781472560858, 9781849460323

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To Alexander M N

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Preface This book is about set-off in international arbitration proceedings. In these proceedings, set-off is arguably the most frequent tool to resist a claim. At the same time, however, because it may differ in kind and substance from one jurisdiction to the other, set-off can be difficult to use. The first part of the book deals with the key aspects of set-off, including its definition, significance and functions. The second part offers a thorough comparative overview of selected domestic laws of set-off, each of which represents a particular concept. It is shown that the differences between the various legal systems are remarkable, not only in theory but also in the application of those laws in practice. The third part of the book deals with the problematic consequences of these differences and shows the limits and the inadequacy of the traditional choice-of-law doctrines. While demonstrating how to overcome the practical hurdles of the present situation, the third part also offers normative alternatives that would considerably help the adjudication of commercial disputes. The present book was originally presented as Habilitationsschrift at the University of Basel, Switzerland. It was accepted in May 2009, on the basis of expert reports written by Professor Dr Ingeborg Schwenzer, University of Basel, Professor Dr Franz Werro, University of Fribourg and Georgetown University Law Center, Washington, DC, and Professor Dr Daniel Girsberger, University of Lucerne. I wish to thank the three experts for reading my study and making invaluable suggestions, which I was able to take into account in the final version of the manuscript. I also wish to thank Mr Richard Hart, who read the manuscript on the day he received it and who accepted on that very day to publish it. Finally, I want to express my gratitude to Ms Mel Hamill at Hart Publishing, who edited the text with great professionalism and patience. This study was written while I held the position of Max-Geldner-Stiftung assistant professor at the Law Faculty of Basel. I want to express here my deepest gratitude to the Stiftung for offering me its generous support. The Law Faculty provided me with the intellectual environment I needed to write. I benefited greatly from the time I spent there teaching and researching; I am grateful for all I learnt both from my students and my colleagues. A special thank goes to Professor Ingeborg Schwenzer for her support and advice during this time. A further rewarding experience was the time I spent at WilmerHale in London, between 2007 and 2008. I am especially thankful for the advice and friendship of Gary Born, Franz T Schwarz, and Dr Maxi Scherer. I feel further indebted to Dr

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Christopher Kee, Senior Researcher at the University of Basel, who read my original manuscript and offered precious remarks both in terms of substance and language. Finally, this book would not have seen the light of day without the constant support and confidence of my family and of Gerald, my husband. I wish, in particular, to express my greatest gratitude to my parents, who, despite their professional workload, took care of Alexander, my newborn son, while I was working on my latest discoveries in the world of set-off. It is to him that I dedicate this study. Christiana Fountoulakis Fribourg, 9 October 2010

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List of Abbreviations AAA

American Arbitration Association

AAA Commercial Arbitration Rules

AAA Commercial Arbitration Rules and Mediation Procedures (including Procedures for Large, Complex Commercial Disputes), amended and effective as of 1 September 2007

AAA International Arbitration Rules

ICDR and AAA International Dispute Resolution Procedures (including Mediation and Arbitration Rules), amended and effective as of 1 March 2008

ABGB

Allgemeines Bürgerliches Gesetzbuch (Civil Code of 1811, Austria)

AC

The Law Reports, Appeal Cases, House of Lords (Third Series) (since 1891, England and Wales)

AcP

Archiv für die civilistische Praxis (journal, Germany)

ACSR

Australian Corporations and Securities Reports

ACTR

Australian Capital Territory Reports

All E R

All England Law Reports

ALR

Australian Law Reports

ALR

Allgemeines Landrecht für die preussischen Staaten (Prussian civil law codification of 1774)

Am J Comp L

American Journal of Comparative Law (journal, USA)

Ann Surv Int’l & Comp L

Annual Survey of International & Comparative Law (journal, USA)

App Cas

Law Reports, Appeal Cases (Second Series) (1875–1890, England & Wales)

Arb Int

Arbitration International (journal, England)

ASA Bull

Bulletin of the Swiss Arbitration Association

Asian DR

Asian Dispute Review (journal, Hong Kong)

BGB

Bürgerliches Gesetzbuch (Civil Code, Germany)

BGH

Bundesgerichtshof (Supreme Court of Germany)

BGHZ

Entscheidungen des Bundesgerichtshofs in Zivilsachen (official decisions of the German Supreme Court, Germany)

BLR

Building Law Reports (since 1975, England and Wales)

BPR

Butterworths Property Reports (1950–1989, Australia, New South Wales)

B&S

Best & Smith’s Queen’s Bench Reports (1861–1869, England and Wales)

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xx List of Abbreviations

Bull Civ

Bulletin des arrêts de la Cour de cassation, chambre civile (official decisions of the French Supreme Court) Burrow’s King’s Bench Reports tempore Mansfield (1756–1771, England and Wales) chapter (in English legislation) Court of Appeal (England, Australia, New Zealand), Cour d’appel (France) California Law Review (journal, USA)

Burr c CA Cal L Rev CC

French Code Civil / Italian Codice Civile / Spanish Código Civil

CCI

Chambre de Commerce Internationale, Paris (Chamber of Commerce and Industry)

cf

confer

Ch

The Law Reports, Chancery Division

Chi J Int’l L

Chicago Journal of International Law (USA)

CIDRA

Chicago International Dispute Resolution Association

CIETAC

China International Economic and Trade Arbitration Commission

CISG

United Nations Convention on Contracts for the International Sale of Goods of 11 April 1980

CJ

Chief Justice (England)

CMR

Convention on the Contract for the International Carriage of Goods by Road of 19 May 1956

CO

Code of Obligations (Switzerland)

Collection

Collection of ICC Arbitral Awards (I: 1974–1985; II: 1986–1990; III: 1991–1995; IV: 1996–2000)

Colum L Rev

Columbia Law Review (journal, USA)

cons

consideration

CPR 1998

Civil Procedure Rule 1998 (England)

CRCICA

Cairo Regional Centre for International Commercial Arbitration

D

Recueil Dalloz Sirey (journal, France)

DCFR

Draft Common Frame of Reference (prepared by the Study Group on a European Civil Code and the Research Group on EC Private Law (Acquis Group))

De GM & G

De Gex, Macnaghten & Gordon’s Chancery Reports (1851–1857, England and Wales)

Denv J Int’l L & Pol’y

Denver Journal of International Law and Policy (journal, USA)

DFT

Decisions of the Swiss Federal Tribunal

Dig

Digest of Justinian (Digesta Iustiniani), quoted by [book], [title], [law] [author]

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List of Abbreviations xxi

DIP

Hagg Adm Harv Int’l L J Harv L Rev

Droit international privé (abbreviation of French book titles) Deutsche Institution für Schiedsgerichtsbarkeit e V (Germany) Arbitration Rules of the DIS European Community European Court of Justice European Court Reports editor(s) edition exempli gratia (= for example) Einführungsgesetz zum Bürgerlichen Gesetzbuche (= German Statute of Private International Law) European Journal of Law Reform (journal, The Netherlands) European Law Review (journal, England) English Reports (1210–1865, England and Wales) European Review of Contract Law (journal, Germany) European Review of Private Law (journal, Netherlands) et sequens (= and the following) England and Wales Court of Appeal (Civil Division) Decisions England and Wales High Court (Chancery Division) (since 2001) Federal Court Reports (Australia) Feuille Fédérale (Report from the Swiss Parliament) footnote Il Foro Italiano (since 1876, Italy) European Contract Code of the Academy of European Private Lawyers Recueil de la Gazette de Palais (journal, France) Giurisprudenza Italiana (since 1848, Italy) Giustizia Civile Massimario (since 1951, Italy) Zeitschrift für das Privat- und öffentliche Recht der Gegenwart, established by Grünhut (journal, Germany) Haggard’s Admiralty Reports (1822–1838, England) Harvard International Law Journal (journal, USA) Harvard Law Review (journal, USA)

HGB

Handelsgesetzbuch (Commercial Code, Germany)

DIS DIS Rules EC ECJ ECR ed(s) edn eg EGBGB EJLR E L Rev ER ERCL ERPL et seq EWCA Civ EWHC FCR FF fn Foro it Gandolfi Principles Gaz Pal Giur it Giust Civ GrünhutsZ

ibid

ibidem (= at the same place)

ICC

International Chamber of Commerce, Paris

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List of Abbreviations

ICC Bull

ICC International Court of Arbitration Bulletin

ICC Rules

Rules of Arbitration of the International Chamber of Commerce (Paris)

ICDR

International Center for Dispute Resolution (USA)

ICLQ

International and Comparative Law Quarterly (journal, England)

ie

id est (= that is)

IHR

Internationales Handelsrecht (journal, Germany)

ILA

International Law Association

Int ALR

International Arbitration Law Review (England)

Int & Comp LQ

Journal of Comparative Legislation and International Law (journal, England)

IPR

Internationales Privatrecht (abbreviation of German book title)

IPRax

Praxis des Internationalen Privat- und Verfahrensrechts (journal, Germany)

IPRspr

Die deutsche Rechtsprechung auf dem Gebiete des Internationalen Privatrechts (journal, Germany)

IVR

Internationales Vertragsrecht (abbreviation of German book title)

J

Judge

J Bus Law

The Journal of Business Law (England)

JBl

Juristische Blätter (journal, Austria)

JCP

Juris-Classeur périodique, La Semaine juridique (journal, France)

JDI

Journal du droit international (Clunet) (France)

J Int’l Arb

Journal of International Arbitration (The Netherlands)

J Law & Com

Journal of Law and Commerce (USA)

jun

junior

JZ

Juristenzeitung (journal, Germany)

KB

Law Reports King’s Bench Division (England)

KG

Kammergericht (Regional Court of Appeal in Berlin, Germany)

LC

Lord Chancellor

LCIA

London Court of International Arbitration

LJ

Lord Justice

Lloyd’s Rep

Lloyd’s Law Reports (since 1968, England and Wales)

LMCLQ

Lloyd’s Maritime & Commercial Law Quarterly (journal, England)

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List of Abbreviations xxiii

LM

NJW NJW-RR

Das Nachschlagewerk des Bundesgerichtshofs in Zivilsachen (the reference book of the Supreme Court of Germany in private law matters) Loyola Los Angeles International and Comparative Law Review (journal, USA) Law Times Reports (1859–1947, England and Wales) Monatsschrift für Deutsches Recht (journal, Germany) Mealey’s International Arbitration Report (journal, USA) Michigan Law Review (journal, USA) Moore’s Privy Council Cases (1836–1862, England and Wales) Master of the Rolls (England and Wales) Meeson & Welsby’s Exchequer Reports (1836–1847, England and Wales) note numéro Netherlands Arbitration Institute Nieuw Burgerlijk Wetboek (the Netherlands) Nouveau coutumier général ou corps des coutumes générales et particulières de France et des provinces (collection of French customary law, 1724) [The citations to NCG are in the following order: first the title of the code of customary law, followed by the place in that code referred to in the text, followed by the date, if available, of the codification. The citation to NCG follows, with volume number and the number of the page in that volume on which the reprint of the particular code begins.] Nouveau Code de Procédure Civile (new code of civil procedure, France / Luxembourg) Neue Juristische Wochenschrift (journal, Germany) NJW-Rechtsprechungs-Report (journal, Germany)

NSWLR

New South Wales Law Reports (since 1971, Australia)

NSWSC

New South Wales Supreme Court (Australia)

NYC

The New York Convention of 10 June 1958 on the recognition and enforcement of foreign arbitral awards

Loy LA Int’l & Comp L Rev LT Rep MDR Mealey’s Int’l Arb Rep Mich L Rev Moo PC MR M&W n n° NAI NBW NCG

NCPC

NYU L Rev

New York University Law Review (journal, USA)

NZBau

Neue Zeitschrift für Baurecht und Vergaberecht (journal, Germany)

NZLR

New Zealand Law Reports

OGH

Oberster Gerichtshof (Supreme Court of Austria)

ÖBA

Österreichisches Bank-Archiv (journal, Austria)

Okla L Rev

Oklahoma Law Review (journal, USA)

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List of Abbreviations

ord p para(s) PECL PICC Plc QB QC Qd R r RabelsZ RDAI RdW RecCours

Rev Arb Rev dr unif Rev hellénique dr int Rev trim dr civ RheinArch RheinZ Riv dir civ Riv trim dir proc civ RIW RSC s SC SCA

order page Paragraph(s) Principles of European Contract Law UNIDROIT Principles for International Commercial Contracts (2nd edn 2004) Public limited company Law Reports Queen’s Bench Division (England) Queen’s Counsel Queensland Reports (since 1958, Australia) rule (England) Rabels Zeitschrift für ausländisches und internationales Privatrecht (journal, Germany) Revue de Droit des Affaires Internationales (journal, France) Recht der Wirtschaft (journal, Austria) Recueil des cours de l’Académie de droit international de La Haye = Collected courses of the Hague Academy of International Law (The Netherlands) Revue de l’arbitrage (journal, France) Revue de droit uniforme (= Uniform Law Review, journal, Italy) Revue héllenique de droit international (journal, Greece) Revue trimestrielle de droit civil (journal, France) Archiv für Zivil- und Strafrecht der königlichen preußischen Rheinprovinz (journal, Germany) Rheinische Zeitschrift für Zivil- und Prozessrecht (journal, Germany) Rivista di diritto civile (journal, Italy) Rivista trimestrale di diritto e procedura civile (journal, Italy) Recht der Internationalen Wirtschaft (journal, Germany) Rules of the Supreme Court (England) Section Session Cases (Report of the cases heard by the Court of Session, Scotland) Supreme Court Act 1981 (England)

SCC

Arbitration Institute of the Stockholm Chamber of Commerce (Sweden)

SCC Rules

Rules of Arbitration of the SCC

SCH

Schiedsspruch Austria (abbreviation of arbitral awards in Austria)

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List of Abbreviations xxv

Schw Jh Int R SCL Rev SJ SJZ Spec Supp SPILS S&S Swiss Rules SZIER SZZP Tex Int’l L J Tex L Rev transl UCC UNCITRAL UNCITRAL Arbitration Rules UNCITRAL Assignment Convention UNCITRAL Model Law

UNIDROIT Unif L Rev

Schweizerisches Jahrbuch für Internationales Recht (series, Switzerland) South Carolina Law Review (journal, USA) La Semaine Judiciaire (journal, Switzerland) Schweizerische Juristen-Zeitung (journal, Switzerland) Special Supplement Statute on Private International Law of 18 December 1987 (Switzerland) Schip en Schade (journal, the Netherlands) Swiss Rules of International Arbitration Schweizerische Zeitschrift für internationales und europäisches Recht (journal, Switzerland) Zeitschrift für das schweizerische Zivilprozessrecht (journal, Switzerland) Texas International Law Journal (journal, USA) Texas Law Review (journal, USA) translation Uniform Commercial Code (USA) United Nations Commission on International Trade Law Arbitration Rules of UNCITRAL of 28 April 1976 United Nations Convention on the Assignment of Receivables in International Trade of 12 December 2001 UNCITRAL Model Law on International Commercial Arbitration of 21 June 1985, with amendments as adopted on 7 July 2006 International Institute for the Unification of Private Law Uniform Law Review (= Revue de droit uniforme, journal, Italy)

U Penn L Rev

University of Pennsylvania Law Review (journal, USA)

USA

United States of America

v

versus

Vand J Transnat’l L

Vanderbilt Journal of Transnational Law (journal, USA)

VersR

Versicherungsrecht, Juristische Rundschau für die Individualversicherung (journal, Germany)

Ves Jun

Vesey Junior’s Chancery Reports (1789–1817, England and Wales)

VIAC

International Arbitral Centre of the Austrian Federal Economic Chamber = Vienna International Arbitral Centre

Vic SC

Victoria Supreme Court (Australia)

VR

Victoria Review (journal, Australia)

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VSC WBR WIPO Rules WLR WN YB Comm ZEuP ZfRV ZGB ZIP ZPO ZvglRWiss ZZP ZZPInt

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Victoria Supreme Court (Australia) Wetboek van Burgerlijke Rechtsvordering (Netherlands Code of Civil Procedure) World Intellectual Property Organization Arbitration Rules Weekly Law Reports (since 1953, England and Wales) Weekly Notes of Cases (1866–1952, England and Wales) Yearbook of Commercial Arbitration (periodical, USA) Zeitschrift für Europäisches Privatrecht (journal, Germany) Zeitschrift für Rechtsvergleichung (journal, Austria) Zivilgesetzbuch (Civil Code, Switzerland) Zeitschrift für Wirtschaftsrecht (journal, Germany) Zivilprozessordnung (Code of civil procedure, Austria, Germany, Switzerland) Zeitschrift für vergleichende Rechtswissenschaft (journal, Germany) Zeitschrift für Zivilprozeß (journal, Germany) Zeitschrift für Zivilprozeß international (journal, Germany)

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Introduction

I Set-off as a Defence Set-off plays a crucial role in international financial and commercial affairs.1 It is one of the most popular defences in a judicial proceeding.2 Reportedly, 15 to 20 per cent of all international arbitration cases involve a set-off defence.3 Set-off is usually defined as the process by which the amount owed to the creditor is reduced by the amount which the creditor owes to the debtor.4 While set-off in most cases involves mutual monetary claims, many laws allow for set-off where the claims concern other fungible goods.5 The operation of set-off is, at first sight, simple: if A owes 500,000 to B and B owes 200,000 to A, A can reduce the original debt of 500,000 by the amount owed to it by B. It will thus pay only the remaining 300,000. Such a set-off is a highly effective and economic legal instrument. Parties A and B need not engage in unnecessary and costly back and forth payments. The situation is cleared with a one-off payment of 300,000 from A to B. Set-off is also an expression of fairness: A need not pay 500,000 to B first and afterwards solicit the sum of 200,000 owed to it by B while bearing the risk that the amount is not retrievable. Rather, A can eliminate the risk of B’s insolvency by a ‘short-cut payment’ of 300,000. The possibility of avoiding the other party’s insolvency fulfils a security function at the same time: by exercising

1 Derham, Rory, The Law of Set-off, 3rd edn (Oxford: University Press, 2003) para 1.08; Wood, Philip R, English and International Set-Off (London: Sweet & Maxwell, 1989) vii; Bénabent, Alain, Droit civil, Les obligations, 11th edn (Paris: Montchrestien, 2007) para 815 et seq; Malinvaud, Philippe, Droit des obligations, 10th edn (Paris: Litec, 2007) para 811; Aepli, Viktor, ‘Ausgewählte Fragen zur Verrechnung 1’ Baurecht (1990) 3 (‘In daily legal routine, [set-off] is the most common way to extinguish a claim.’). 2 With regard to state court proceedings, there is abundant case law dealing with set-off defences. In contrast, international arbitration awards are rare, which is due to the restrictive case publication policy in international arbitration. The small number of published awards does not reveal anything about the actual significance of set-off in commercial arbitration practice. 3 Berger, Klaus Peter, ‘Set-off ’ ICC Bull, Spec Supp (2005) 17 (18). 4 See the definition in the Draft Common Frame of Reference (DCFR), art III—6:101(1). 5 For details see below at 51–52; 70–72; 84–85.

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set-off, A is entitled to withhold performance. Simultaneously, A satisfies its own claim which it holds against B and thus hedges its claim against possible decreases in liquidity.6

II The Tendency of ‘Internationalised’ Rules in International Arbitration Although the possibility to set off as such is virtually undisputed in all legal jurisdictions, the domestic concepts of set-off differ.7 The diversity of legal systems, again, raises business transaction costs altogether as it requires the examination of several foreign laws.8 Furthermore, the plurality of set-off concepts is in stark contrast to international commercial arbitration, which is the most common way of dispute settlement in business matters these days.9 Owing to its international character, there has been an ongoing effort in international arbitration to seek legal solutions both for procedural and substantive law questions that are detached from historically grown particularities of national laws. That is not to say that international commercial arbitration is completely ‘de-localised’ or ‘a-national’, although the idea of an international arbitration that is ‘free from the controls of parochial national laws’10 has been promulgated by reputable authors.11 Most international arbitration conventions, national arbitration statues and institutional rules recognise that an international arbitration has a legal ‘seat’ or juridical domicile and that the laws of the seat of arbitration have a materially greater legal control over a locally seated arbitration than any other legal system,12 presumptively (that is, if the parties have not derogated from those rules) governing procedural steps of the arbitral tribunal as well as of the state court which is called upon at the arbitral seat in order to assist 6

For a detailed discussion of the purposes and functions of set-off see below at 9 et seq. For details see below at 123 et seq. 8 cf Fountoulakis, Christiana, ‘The Parties’ Choice of ‘Neutral Law’ in International Commercial Sales Contracts’ VII European Journal of Law Reform (2005) 303, 312. 9 cf, among many others, Carbonneau, Thomas, E, The Law and Practice of Arbitration, 2nd edn (Huntington, New York: Juris Publishing, 2007) 429 et seq; Lew, Julian D M, Mistelis, Loukas A and Kröll, Stefan M, Comparative International Commercial Arbitration (The Hague etc: Kluwer International, 2003) nn 1–9; Redfern and Hunter, n 1–01; Gaillard, Emmanuel and Savage, John (eds), Fouchard, Gaillard, Goldman On International Commercial Arbitration (The Hague etc: Kluwer International, 1999) para 1. 10 Lew, ‘Achieving the Dream: Autonomous Arbitration’, 22 Arb Int’l 179, 179–80 (2006). 11 See Goldman, Berthold, ‘Arbitrage international et droit commun des nations’ (1956) Rev arb 115; Park, William W, ‘The Lex Loci Arbitri and International Commercial Arbitration’ (1983) 32 Int’l Comp LQ 21; Paulsson, Jan, ‘Arbitration Unbound: Award Detached from the Law of its Country of Origin’ (1981) 30 Int’l & Comp LQ 358; Paulsson, Jan, ‘Delocalization of International Commercial Arbitration’ (1983) 32 Int’l & Comp LQ 53; Lew, Julian DM, ‘Achieving the Dream: Autonomous Arbitration’ (2006) 22 Arb Int’l 179. 12 Born, Gary B, International Commercial Arbitration (The Netherlands: Wolters Kluwer, 2009) 1250–51, 1303–04. 7

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The Tendency of ‘Internationalised’ Rules in International Arbitration

3

the arbitration proceedings.13 However, the fact that an international arbitration is coloured by the arbitration laws at the seat of the arbitration does not vest international arbitration with a national dress. The growing influence of the UNCITRAL Model Law and the imposition of international standard under the New York Convention have led to a convergence of the terms of many national arbitration laws.14 Furthermore, and even more importantly, most national arbitration laws grant the parties wide leeway to derogate from the provisions contained therein. Parties make frequent use of this possibility, and they will often opt for the application of international rules, such as the IBA Rules on the Taking of Evidence or the IBA Guidelines on Conflicts of Interest.15 There is thus a tendency to resort to truly international solutions which reflect modern notions of commercial and trade law and which are, ideally, a ‘premium selection’ of national concepts and instruments proven to be suitable on the international parquet. Such truly international solutions are often based on comparative law considerations which encapsulate the common core of divergent legal systems.16 Domestic specificities are left aside, and questions on the detail are approached by fast-developing regimes of international rules which may assume different legal forms, depending on the field of application. The specifically international character of international commercial arbitration leads to a continuous ‘de-localisation’ of the law not only for questions

13 The law of the seat of the arbitration (lex loci arbitri) presumptively applies to procedural steps in which the assistance of state courts is needed at the arbitral seat, including the resolution of disputes concerning jurisdictional disputes (eg regarding the competence of the tribunal), courtordered interim relief, judicial assistance in the taking of evidence, the annulment of arbitral awards. The lex loci arbitri presumptively also governs the arbitrator’s rights and duties, the standards of procedural fairness, the mode of evidence-taking, the form, publication and the grounds for annulment of the award, see Born, International Commercial Arbitration, 1287 et seq. 14 Born, International Commercial Arbitration (above n12), 1304 et seq. 15 IBA Rules on the Taking of Evidence in International Commercial Arbitration, Preamble, No 1 (‘These IBA Rules […] are intended to govern in an efficient and economical manner the taking of evidence in international commercial arbitrations, particularly those between Parties from different legal traditions. They are designed to supplement the legal provisions and the institutional or ad hoc rules according to which the Parties are conducting their arbitration.’); IBA Guidelines on Conflicts of Interest in International Arbitration, Preamble, No 6 (‘These Guidelines are not legal provisions and do not override any applicable national law or arbitral rules chosen by the parties. However, the Working Group hopes that these Guidelines will find general acceptance within the international arbitration community […] and that they thus will help parties, practitioners, arbitrators, institutions and the courts in their decision-making process on these very important questions of impartiality, independence, disclosure, objections and challenges made in that connection. The Working Group trusts that the Guidelines will be applied with robust common sense and without pedantic and unduly formalistic interpretation.’). 16 See, eg, IBA Guidelines on Conflicts of Interest in International Arbitration, Preamble, No 4 (‘The Guidelines reflect the Working Group’s understanding of the best current international practice […] based […] upon statutes and case law in jurisdictions and upon the judgment and experience of members of the Working Group and others involved in international commercial arbitration.’).

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relating to arbitration proceedings, but also for questions of substantive law.17 One way of ‘internationalising’ substantive law is to apply national legal provisions having regard to the international character of the arbitral process and the underlying transactions. The content of domestic legal rules is ‘adjusted’ in view of the particular needs and characteristics of international commerce. This is often done by interpreting national law in the light of international general principles derived from international conventions or sets of rules, such as the UN Sales Convention on the International Sale of Goods or the UNIDROIT Principles.18 Another, more far-reaching way to internationalise substantive legal provisions in the context of international arbitration is to leave domestic law aside and apply uniform, ‘de-nationalised’ rules instead. Although the application of ‘a-national’ rules by the arbitral tribunal absent a respective choice-of-law agreement by the parties is disputed, there is a—probably growing—trend in that direction.19

III Conflict of Domestic Laws of Set-off and International Character of International Arbitration Domestic niceties are at odds with the development of a harmonised world law of commerce. The fact of divergent legal concepts is, of course, not unique to set-off. What makes it exceptional, however, is the particular character of set-off as a legal instrument: in contrast to most other legal mechanisms, set-off involves at least two obligations which are cleared—two obligations that again may be of different origin and subject to different laws. Set-off therefore entails a series of follow-up questions, all of which may be governed by another law. The number of domestic laws that may become relevant in order to determine the operation, requirements, and effects of a single set-off may be extensive.20 There is a certain disharmony in the picture of set-off and international arbitration. Set-off is indispensable in practice, but it has a domestic flavour and 17 Carbonneau, Arbitration (above n9), 521; Schroeder, Hans-Patrick, Die lex mercatoria arbitralis (Frankfurt am Main and Munich: QUADIS and Sellier, 2007) 172 et seq; cf also Berger, Klaus Peter, The Creeping Codification of the Lex Mercatoria 2nd edn (The Hague etc: Kluwer Law International, 2010) 9 et seq. 18 See, eg, Partial Award in SCC Case 117/1999, in: Stockholm Arbitration Report 2002, 59; Award in WIPO Arbitration and Mediation Center, 25 January 2007, ; Award in CIETAC, 2007, ; Award in Internationales Schiedsgericht der Wirtschaftskammer Österreich, SCH-4921, 11 May 2006, ; Award in International Arbitration Court at the Chamber of Commerce and Industry of the Russian Federation, 4 April 2003, ; Award in Camera Arbitrale Nazionale e Internazionale di Milano, 28 November 2002, ; Award in ICC Case No 9994, December 2001, ICC Bull, Spec Suppl (2005) 79. 19 Carbonneau, Arbitration (above n9), 521. 20 For details see below at 127−28.

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may cause a series of intricate questions, not only on a choice-of-law level, but also on the level of determining the exact content of a domestic law of set-off. This is in contrast to recent developments in international commercial arbitration, which is gradually being internationalised not only with regard to questions of conducting proceedings and taking evidence, but also in relation to the law applicable in the merits.

IV Aims of This Book Starting with an overview on key aspects of set-off (chapter 1), this study then analyses major Western jurisdictions and juxtaposes and compares them with a view to set-off (chapter 2). Although the consideration of laws other than those belonging to the common and the civil law was certainly tempting, the investigation of those laws would have required deeper insights into the legal culture of those countries. It seemed advisable therefore to adhere to jurisdictions that were more easily accessible to the Western jurist. The book further examines how the difficulties of differing set-off systems are dealt with on an international level (chapter 3). Classic choice-of-law theories as well as law-determination approaches developed in international commercial arbitration will be discussed. Based on the results both of the comparative analysis of set-off laws and the examination of law-determination mechanisms on an international level, possible solutions for dealing with set-off in cross-border situations will be sought. Conclusions (chapter 4) and a summary (chapter 5) will round out the picture.

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1 Key Aspects of Set-off

I Definition Set-off is the mutual amortisation of debts without an actual exchange of performances.1 Two parties who are mutually indebted to each other are relieved from rendering performance in reality to the extent the claims are reciprocal. Each party is satisfied by the fact that the debtor retains what it owes to the creditor.2 Set-off creates thus a balance between two reciprocal debts. Set-off constitutes, ‘from a purely dogmatic point of view, probably the most interesting manner of terminating an obligation’.3 As easy and plausible as set-off may seem, its details are intricate. Set-off is a theoretical concept involving mere virtual performance. The countervailing claims remain invisible and intangible to the extent they are reciprocal, which makes set-off a particularly difficult subject to grasp.4

1 Ourliac, Paul and de Malafosse, J, Droit romain et ancien droit: les obligations (Paris: Presses universitaires de France, 1957) 199 para 190; Pichonnaz, Pascal, La compensation: analyse historique et comparative des modes de compenser non conventionnels (Fribourg: éditions universitaires, 2001) n 29 et seq; Griss in Koziol, Helmut; Bydlinski, Peter and Bollenberger, Raimund (eds) Kurzkommentar zum ABGB 2nd edn (Vienna and New York: Springer, 2007) n 1. 2 Baudry-Lacantinerie, Gabriel and Barde, Louis, Traité théorique et pratique de droit civil. Des obligations, 3rd edn (Paris: Recueil Sirey, 1908) para 1802. 3 Zimmermann, Reinhard, The Law of Obligations, Roman Foundations of the Civilian Tradition (Oxford: Clarendon Press, 1996) 760. See also Kohler, Josef, ‘Die Aufrechnung nach dem Bürgerlichen Gesetzbuche’, XXIV Zeitschrift für Deutschen Civilprozess (1898) 1: ‘Set-off is a transaction which, in its endless economic importance and its utmost subtle legal structure, must tempt the jurist to examine it again and again.’ (‘Die Aufrechnung ist ein Geschäft, das den Juristen sowohl durch seine unendliche wirtschaftliche Wichtigkeit, als durch seine äusserst feine juristische Struktur immer und immer wieder zur Bearbeitung reizen muss.’); Proctor, Charles, International Payment Obligations—a Legal Perspective, (London etc: Butterworths, 1997) 144 (‘Set-off is a difficult subject even in the purely domestic context.’); Bertrams, RIVF, ‘Set-off in Private International Law’, in BoeleWoelki, Katharina et al (eds), Comparability and Evaluation, Essays on Comparative Law, Private International Law and International Commercial Arbitration in Honour of Dimitra Kokkini-Iatridou (Dordrecht etc: Martinus Nijhoff Publishers, 1994) 153 (‘rather intricate phenomenon’). 4 Wood, Philip R, English and International Set-Off (London: Sweet & Maxwell, 1989) paras 1–4.

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In an effort to aid understanding, set-off has sometimes been described as ‘short-cut payment’, a ‘double payment abrégé’.5 This would be an oversimplification. The debtor does not actually pay; it merely substitutes the payment to which it was obliged by a cross-claim that it has against the creditor.6 The basic concept of set-off is that the debtor holds a counter-obligation against the creditor on which it may rely, so that the creditor can only enforce the balance which may be left.7 The idea of ‘short-cut payment’, of abbreviated performance, has mainly been upheld in jurisdictions which assume that set-off takes place automatically, such as France and, originally at least, Austria.8 The theory of automatic operation9 implies that set-off is independent from the parties’ will. It takes place ipso iure at the time the two claims are eligible for set-off. Set-off is regarded as a fictitious payment and thus as a mathematic equivalent of an actual payment. Set-off will not serve any other purpose than ficticious—and therefore short-cut—payment. In contrast, understanding set-off as a ‘short-cut payment’ is not popular in those jurisdictions where set-off operates as a judicial instrument.10 For instance, with regard to the so-called ‘statutory set-off ’ in English law, it is usually pointed out that ‘[s]et-off is entirely distinct from payment’.11 This was emphasised by Hoffmann LJ in Aectra Refining and Manufacturing Inc v Exmar NV:12 ‘The procedural basis of independent set-off is reflected in the rule that the mere existence of liquidated cross-claims does not automatically extinguish the smaller debt. It operates only by express or implied agreement or through the judicial process by which the account is taken.’ The position is thus entirely procedural.

5 Baudry-Lacantinerie and Barde (above n1) para 1802 and elsewhere; Carbonnier, Jean, Droit civil, tome 4 / Les obligations, 22nd edn (Paris: Presses universitaires de France, 2000) paras 337, 342; Zeiller, Franz Edlen von, Commentar über das allgemeine bürgerliche Gesetzbuch für die gesamten Deutschen Erbländer der Oesterreichischen Monarchie, Vol IV (Vienna, Trieste, 1813) para 1438 ABGB, para 1 (‘im Grunde eine Zahlung in der Kürze’); Noodt, Gerard, Opera Omnia, Vol II, 3rd edn (Cologne: Theodor Haak, 1773) 283 (‘Compensatio est mutua solutio juris interpretatione quasi per brevem manum facta’). 6 cf Bénabent, Alain, Droit civil, Les obligations, 11th edn (Paris: Montchrestien, 2007) para 815; Burkhalter Kaimakliotis, Sabine, Verrechnung von Fremdwährungsverbindlichkeiten (Zurich: Doctoral Thesis, 2006) 135; Koller, Alfred, Schweizerisches Obligationenrecht Allgemeiner Teil Vols I and II, 3rd edn (Berne: Staempfli Publishers, 2009) para 35 para 24. 7 See Kaser, Max and Knütel, Rolf, Römisches Privatrecht, 19th edn (Munich: CH Beck, 2008) para 53–24 et seq; Zimmermann, Reinhard, Comparative Foundations of a European Law of Set-Off and Prescription (Cambridge: University Press, 2002) 19; Derham, Rory, The Law of Set-off, 3rd edn (Oxford: University Press, 2003) para 1.01 (‘The essence of set-off […] is the existence of crossdemands.’); Wood, Set-Off (above n4) paras 1–3. 8 An overview of French and Austrian law of set-off will be provided below at 45 et seq , 90 et seq. 9 For details on the automatism approach see below at 31−32. 10 Below at 102−03. 11 Kidwell, Raymond, ‘Set-off and Counterclaim’ in Halsbury’s Laws of England (Lord Hailsham of St Marylebone ed) Vol 42, 4th edn (London: Butterworth, May 1999) para 410. See also Aectra Refining & Manufacturing Inc v Exmar NV [1994] 1 WLR 1634, 1650 et seq, per Hoffmann LJ (‘Independent set-off […] is not a substantive defence to the claim, but a procedure for taking an account of the balance between the parties.’). 12 [1994] 1 WLR 1634 (1650).

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The debtor cannot deduct the amount which is owed to it by the creditor and pay the balance. In practice, the debtor will decline to pay the primary claim and will thus oblige the creditor to sue for the primary claim. The debtor will then raise set-off as a defence in the proceedings. Until judgment in favour of the defendant on the ground of set-off has been given, the claimant’s claim is not extinguished.13 Also, Germanic jurisdictions do not consider set-off as an abbreviated double payment, at least not in the first instance.14 Germanic laws provide that set-off only takes place if exerted by one of the parties. Until set-off is declared, the two claims serve each other as a cover. Each party is creditor with regard to the countervailing claim and holds its claim as a sort of guarantee. Set-off is thus used as a ‘fortified’ right of retention.15 This brief illustration shows that, in an international context, any definition of set-off which goes beyond the mere technical aspect of a mutual extinction of claims is doomed to fail. The idea of an abbreviated payment fits well with the French concept of set-off but does not comply with the English law of statutory set-off. In the Germanic laws, again, priority is given to other aspects. Here, the abbreviation of payment is just one of several functions.

II Significance and Functions of Set-off A Set-off as a Means of Economic Efficiency Set-off rests upon the ground of convenience. This was recognised back in Roman times16 and was accepted as a basic idea throughout the later centuries. In the words of Sir Joseph Jekyll, MR: It is true, stoppage is no payment […], but then a very slender agreement for discounting or allowing one debt out of the other, will make it a payment, because this prevents circuity of action and multiplicity of suits, which is not favored in law […].17 In modern times, with their tendency towards cashless transactions, set-off is the central instrument utilised to prevent superfluous, cost-intensive back and 13

Kidwell in Halsbury’s (n 11 above) para 410. For an overview of Germanic laws of set-off see below at 62 et seq. 15 For details see below at 11−12. See also Gernhuber, Joachim, Die Erfüllung und ihre Surrogate, 2nd edn (Tübingen: JCB Mohr, 1994) 228, who also disassociates himself from the idea that set-off is more or less the same as payment (‘wird doch mit dieser Vorstellung die Wirklichkeit in recht grober Manier verfehlt.’). 16 Hunter, William A, A Systematic and Historical Exposition of Roman Law, In the Order of a Code, (Holmes Beach, Florida: Wm W Gaunt & Sons, 1994 reprint) 831. 17 Jeffs v Wood (1723) 2 P Wms 128, quoted in Loyd, William H, ‘The Development of Set-off ’ 64 University of Pennsylvania Law Review (1916) 541, 549. ‘Stoppage’ was the term used for set-off in the early English cases, because the debtor was in equity allowed to hold back or deduct from the claim against it the amount of its own claim (Loyd, ibid). 14

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forth payments.18 Set-off renders real performance of countervailing congenerous obligations redundant, thus expediting, smoothing, enhancing, and facilitating daily business transactions.19 Thus it ensures efficiency and economy. These functions of set-off are recognised virtually world-wide.

B Set-off as an Equitable Instrument Ensuring economic efficiency is a rather functional task. A more idealistic perspective would describe set-off as an embodiment of equity considerations.20 From an historical perspective, equity was the main purpose of allowing for a set-off. In ancient Roman times, it was held that dolo agit qui petit quod (statim) redditurus est (he who demands something which he will have to (immediately) return is acting in bad faith).21 In iudicia bonae fidei (good faith relationships), where judgment was based on good faith considerations, it was implied that any reasons opposing the claimant’s demand, such as a cross-claim, would be taken into account. But also in actiones stricti iuris (legally strict claims), it was regarded as unfair and improper if the claimant insisted on condemnation into the full amount of its claim where the defendant could prove the existence and the amount of its cross-claim.22 The creditor should not be able to recover all that is owed to it if, at the same time, the debtor holds a claim against it. In such a case, only the balance could be claimable. Put in more modern and, at the same time, more technical terms, allowing for a set-off leads to a fairer allocation of the insolvency risk.23 If the creditor were entitled to full satisfaction because the debtor’s cross-claim would be irrelevant 18 Carbonnier, Les obligations (above n5) fn 340; Terré, François, Simler, Philippe and Lequette, Yves, Droit civil, Les obligations, 10th edn (Paris: Dalloz, 2009) para 1390; Ourliac and de Malafosse, 199 para 190; von Tuhr, Andreas and Escher, Arnold, Allgemeiner Teil des Schweizerischen Obligationenrechts, Vol II, 3rd edn (Zurich: Schulthess, 1974) 190; Kannengießer, Matthias N, Die Aufrechnung im internationalen Privat- und Verfahrensrecht (Tübingen: Mohr Siebeck, 1998) 8. 19 Malinvaud, Philippe, Droit des obligations, 10th edn (Paris: Litec, 2007) para 811; BaudryLacantinerie and Barde (above n2) para 1802 et seq; see also Zimmermann, Law of Obligations (above n3) 760. 20 See, eg, Green v Farmer (1768) 4 Burr 2214, per Lord Mansfield: ‘Natural equity says, that cross demands should compensate each other, by deducting the less sum from the greater; and that the difference is the only sum which can be justly due.’; MacFarlane v Norris (1862) 2 B & S 783, per Cockburn CJ (at 792); Appleton, Charles Louis, Histoire de la Compensation en Droit Romain (Paris: G Masson, 1895) 6 (‘L’histoire de la compensation est l’un des épisodes les plus intéressants de la lutte entre le droit et l’équité, ces deux enfants rivaux de la justice’); Dernburg, Heinrich, Geschichte und Theorie der Kompensation nach römischem und neuerem Rechte, 2nd edn (Aalen: Scientia Verlag, 1965) (reprint of the Heidelberg edition of 1868) 83 et seq. 21 Dig 50, 17, 173 (Paulus). 22 See Dernburg, Kompensation (above n20) 81 et seq; Zimmermann, Law of Obligations (above n3) 762, and below at 28−29 . 23 Jones, Neil F, Set-off in the Construction Industry, 2nd edn (Oxford etc: Blackwell Science, 1999) 3; Terré, Simler and Lequette (above n18) para 1293; Baudry-Lacantinerie and Barde (above n2) para 1802; Dennhardt in Bamberger, Heinz Georg and Roth, Herbert (eds), Beck’scher OnlineKommentar, 18th edn (as at 1 August 2010) para 387 BGB para 1; see also Zimmermann, Comparative Foundations (above n7) 29.

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for the adjudication of the case and had to be dealt with in a separate action, inequity would become particularly visible. The debtor would have to perform in full and assert its counter-demand in a separate action. It could be that, by then, the creditor had become insolvent and thus unable to fulfil what it owed to the debtor. If the debtor could not set off, it would bear the full risk of the creditor’s insolvency. There is, in general, no legitimacy for such risk allocation. The debtor to the primary claim is, at the same time, the creditor to the cross-claim and thus in an equally legitimised position. There is no justification for treating the creditor of the primary claim and the creditor of the cross-claim differently, since the reason for the latter’s not being the first to demand performance of its claim may be purely coincidental. By allowing for a set-off, this ‘limping’ situation can be avoided. Moreover, the debtor relying on set-off will at least be economically satisfied whenever chances to have its counter-obligation fulfilled in real have vanished. There is, however, yet another side of equity. Set-off reserves the debtor’s right to fulfil its obligations even where it is lacking the means to do so. This usually occurs when the debtor does not have enough money. The debtor wishes to invoke set-off because it has no other way of amortising its debt.24 There are thus several sides of equity to the instrument of set-off. First, it serves as a defence of the debtor who can resist performance as long as it holds a countervailing claim against the creditor. Second, it can serve as a means of collecting the debtor’s countervailing claim where it sees no other way to have it fulfilled. And third, it enables the debtor to amortise its debt in a situation where actual performance on its behalf would not be possible.

C Set-off Providing Security There is a third function fulfilled by set-off. Set-off defences can be used as security devices. They can fulfil a guaranty-like function as the parties can liberate themselves by way of set-off and thus avoid the risks inherent in recovering their claim.25 In this respect, set-off bears some similarity to rights of retention,26 although set-off is the stronger remedy. Rights of retention vary from jurisdiction to jurisdiction,27 but the principle is the same everywhere: they grant the right to withhold one’s own performance as long as the other party does not fulfil its 24 Ehrenzweig, Armin, System des österreichischen allgemeinen Privatrechts, Vol II/1: Das Recht der Schuldverhältnisse, 2nd edn (Vienna: Manz, 1928) 331. 25 Bucher, Eugen, Schweizerisches Obligationenrecht. Allgemeiner Teil ohne Deliktsrecht, 2nd edn (Zurich: Schulthess, 1988) 429; Malinvaud, Obligations (above n19) para 811; Heinrich, Gregor, ‘Rechtsvergleichende Aspekte der Verrechnung als Kreditsicherheit’ 6 Schweizerische Zeitschrift für Wirtschaftsrecht (1990) 266, 270. 26 Similarly Peters, Frank, [book review], 120 Zeitschrift für Zivilprozeß (2007) 533, 534 et seq. 27 For an overview of Anglo-American, German, and Swiss law see Heinrich, 6 Schweizerische Zeitschrift für Wirtschaftsrecht (1990) (above n25) 266, 267 et seq.

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contractual duties. The right of retention differs from set-off in that it has mere ‘nuisance power’.28 The party insisting on performance of the contract can be tenacious and, by exercising its right of retention, withhold its own performance until the defaulting party lives up to its duties. However, a right of retention will neither effectuate performance by the creditor of the primary claim, nor will it extinguish the conforming party’s debt. The security function of set-off is particularly interesting in insolvency cases. Most legal systems acknowledge that the creditor of the insolvent debtor may set off against cross-demands.29 The creditor is thus in a privileged position compared to the other creditors of the bankrupt. The party exercising set-off holds a form of security, because it avoids the risk which arises in bankruptcy: instead of receiving just a percentage of its debt, it can always deduct the entire amount of its debt from the bankrupt’s debt.30

III Significance of Set-off in Modern Business Life A Set-off Agreements in Banking Law The banking industry has been particularly attracted by the virtues of simplification, efficiency, and security inherent in the idea of set-off. Current account, netting, giro, clearing agreements, ‘washable loans’, and the so-called cash-poolmechanisms are relatively modern instruments that have embraced and perfected the basic idea of set-off, giving it a new dimension.31 Those banking-related payment instruments are usually set-off agreements, where the parties have agreed to a right of set-off or consented to the possibility of unilateral set-off in certain circumstances.32

28 See also Baudry-Lacantinerie and Barde (above n2) para 1802 (‘la compensation réalise le paiement, tandis que le droit de rétention ne fait que le garantir’). 29 See below at 14. 30 See, eg, Dullinger, Silvia, Bürgerliches Recht Band II: Schuldrecht Allgemeiner Teil, 3rd edn (Vienna/New York: Springer, 2008) paras 4/23; Schüpbach, Henri-Robert, ‘Compensation et exécution forcée’ in Schuldbetreibung und Konkurs im Wandel (Basel etc: Helbing & Lichtenhahn, 2000) 135 et seq. 31 cf Neate in Neate, Francis (ed), Using Set-off as Security, A Comparative Survey for Practitioners (London: Dordrecht etc: Graham & Trotman, 1990) 1, 2 et seq; Vermylen in Johnston, William and Werlen, Thomas (eds), Set-off Law and Practice, An International Handbook (Oxford: University Press, 2006) para 4.05 et seq; Berger, Klaus Peter, Der Aufrechnungsvertrag. Aufrechnung durch Vertrag, Vertrag über Aufrechnung (Tübingen: Mohr Siebeck, 1996) 35 et seq; Derham, Set-off (above n7) para 16.26 et seq; see also Carbonnier, Les obligations (above n5) fn 340; Dennhardt in Bamberger and Roth (above n23) para 387 BGB para 9; decision of the BGH, 5 November 1998, NJW (1999) 635 et seq; Baudry-Lacantinerie and Barde (above n2) para 1803. 32 See, eg, Goode, Roy, Commercial Law, 3rd edn (London: Penguin Books, 2004) 610 et seq; Berger, Aufrechnungsvertrag (above n31) 35 et seq; Heinrich, 6 Schweizerische Zeitschrift für Wirtschaftsrecht (1990) (above n25) 266, 267; Vermylen in Johnston and Werlen (eds), Handbook, para

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For instance,33a shareholder of a foreign company may wish to finance investment by that company without making a direct contribution itself. The reasons why the shareholder will not wish to make a direct investment will commonly be associated with tax or exchange control considerations. The shareholder, therefore, asks its bank to accept its deposit of the required sum. The bank, in turn, will lend the same amount to the company. The shareholder need not expect to pay the bank much for its services, as it is prepared to provide the entire funding for the required loan and to take the entire credit risk. As far as the bank is concerned, it is interested in that the loan and the matching deposit do not show on its balance sheet. This example requires a tripartite set-off. The bank wishes to ensure that it can set off the liability of the company to the bank in respect of the loan against its liability to the shareholder in respect of the deposit. Although the two debts are not mutual, as is usually required in all laws of set-off,34 the three parties involved can agree to waive the reciprocity criterion. Since they enjoy party autonomy, a contractual set-off may always derogate from the rules governing unilateral set-off. Set-off agreements waiving the requirement of mutuality of the claims are crucial as a credit instrument, as they make it possible for the bank to participate in the transaction without fearing major risks.

B Importance of Unilateral Set-off Set-off raises complex problems when used against the other party’s will that do not come up if the parties have made a set-off agreement. Most tellingly, contractual set-off does not raise particular choice-of-law questions. If no specific choice of law with regard to set-off has been made, the law applicable to the contract will also govern contractual set-off.35 Non-contractual (or: unilateral) set-off is far more complicated in this respect. It is a defence, and its admissibility depends on the respective applicable law. It could be, for example, that one legal system allows for a set-off of claims which are entirely unrelated to each other. This could refer to the situation where the primary claim is a contractual damages claim and the cross-claim is a claim for payment arising out of an entirely different contract. Another, foreign law may not provide for the set-off of unrelated claims. In such constellations, the question arises as to which

4.17 et seq. cf also Using Set-off as Security edited by Neate in 1990, which provides a comprehensive survey on how set-off is used as a security instrument in banking law in selected jurisdictions. 33

The example is taken from Neate in Neate (ed) (above n30) 1, 3 et seq. See below at 50−51, 69−70, 82−84, 103−05 . 35 This is explicitly provided by art 148(3) of the Swiss Statute on Private International Law (SPILS). 34

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law determines whether a set-off is admissible.36 Furthermore, from a practical viewpoint, set-off agreements may be defective. They may, for example, violate standard terms control legislation or be invalid for vitiated consent, form requirements, etc. In such a case, it will be vital for the debtor to be able to revert to legal, unilateral set-off.37 The focus of this study will rest on non-contractual set-off, understood as a unilateral instrument to defend oneself where confronted with a claim by the other party. Set-off agreements will be referred to only where it is necessary in order to complete the picture. Furthermore, the book will not deal with set-off in insolvency. Most legal systems have special rules governing the case where one of the parties becomes insolvent.38 This area is still very much coined by specific domestic technicalities and does not therefore lend itself to comparative analysis.

IV Modern Problems with Set-off A Jurisdictional Questions Set-off has had a particularly interesting historical development in the various jurisdictions. The starting point was often a procedural one;39 set-off was considered as a judicial instrument. In many legal systems, views have now changed, but some jurisdictions have adhered to the procedural idea more than others. Indeed, some legal systems know several forms of set-off which can be either procedural or substantive or both. As will be shown, we are far from unanimity in this field, both on a national and an international level.40 In recent times, legal literature has mainly focused on jurisdictional problems caused by set-off.41 In those jurisdictions where set-off is regarded as a procedural device, 36 See below at 129 et seq. As to the intricacies of choice-of-law questions surrounding legal set-off see also Bertrams, Festschrift Kokkini-Iatridou (above n3) 153. 37 See also Heinrich, 6 Schweizerische Zeitschrift für Wirtschaftsrecht (above n25) 266, 267. 38 English Insolvency Act 1986, s 323; para 94 et seq of the German Insolvenzordnung; art 33(1) of the French Loi du 25 janvier 1985 relative au redressement et à la liquidation judiciaire des enterprises, as modified by Loi du 10 juin 1994; art 56 of the Italian Legge fallimentare; para 19 et seq of the Austrian Ausgleichsordnung, and para 19 et seq of the Konkursordnung; art 537 of the Greek Commercial Code; art 153 of the Portuguese Código dos Valores Mobiliários 1999. 39 Below at 23 et seq, 38 et seq, 101 et seq, 123−24. 40 124 et seq. 41 With regard to jurisdictional problems of set-off in international arbitration see, eg, Aeberli, Peter, ‘Abatements, Set-offs and Counterclaims in Arbitration Proceedings’ Arbitration and Dispute Resolution Law Newsletter (1992) No 3; Berger, Klaus Peter, ‘Die Aufrechnung im Internationalen Schiedsverfahren’ Recht der Internationalen Wirtschaft (1998) 426; Eickhoff, Wolfgang, Inländische Gerichtsbarkeit und internationale Zuständigkeit für Aufrechnung und Widerklage (Berlin: Duncker und Humblot, 1985); Falkenhausen, Joachim von, ‘Ausschluss von Verrechnung und Widerklage durch internationale Gerichtsstandsvereinbarungen’ Recht der Internationalen Wirtschaft (1982) 386; Gäbel, Johannes K, Neuere Probleme zur Aufrechnung im internationalen Privatrecht. Unter besonderer

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whether a court or arbitral tribunal is competent to hear the set-off is a question which is inevitably raised. Judicial competence is, however, not restricted to those legal systems. A court or arbitral tribunal which has been seized in the matter will also have to justify its competence to adjudicate the set-off defence where a set-off is held to be substantive. This is due to the fact that set-off is, technically

Berücksichtigung deutsch-amerikanischer Rechtsverhältnisse (Munich: Verlag V Florentz, 1983); Gross, Domenic, Das rechtliche Schicksal von Verrechnungsansprüchen im Schiedsverfahren, (Zurich: Schulthess, 1999); Jauch, Heidi Kerstin, Aufrechnung und Verrechnung in der Schiedsgerichtsbarkeit. Eine rechtsvergleichende Studie Deutschland / Schweiz, (Berne: Doctoral Thesis, 2001); Karrer, Pierre, ‘Verrechnung und Widerklage vor Schiedsgericht’ in Greiner Jametti, Monique et al (eds) Rechtsetzung und Rechtsdurchsetzung, Festschrift für Franz Kellerhals zum 65. Geburtstag, (Berne: Staempfli Publishers, 2005); Kee, Christopher, ‘Set-off in International Arbitration—What Can the Asian Region Learn?’ 1 Asian Int Arb J (2005) 141; Kellerhals, Franz and Berger, Bernhard, ‘Widerklage und Verrechnung nach den Swiss Rules of International Arbitration’ in Bohnet, François and Wessner, Pierre (eds) Mélanges en l’honneur de François Knoepfler (Basel etc: Helbing & Lichtenhahn, 2005); Berger, Bernhard and Kellerhals, Franz, Internationale und interne Schiedsgerichtsbarkeit in der Schweiz (Berne: Staempfli Publishers, 2006) para 479 et seq; Khalilian, Sayyed Khalil, The Law of International Arbitration, 2nd edn (Vancouver: Pacific Arbitration Network, 2003); Koller, Christian, Aufrechnung und Widerklage im Schiedsverfahren – unter besonderer Berücksichtigung des Schiedsorts (Österreich, Vienna: Manz, 2009); Koller, Christian, ‘Contemplations on Set-off and Counterclaim in International Commercial Arbitration’ Austrian Arbitration Yearbook 2008 59, Mourre, Alexis ‘The Set-off Paradox in International Arbitration’ Arb Int (2008) 387; Pavic´ , Vladimir, Counterclaim and Set-off in International Arbitration, Annals International Edition (2006); Pittet, Luc, Compétence du juge et de l’arbitre en matière de compensation (Zurich: Schulthess, 2001); Poudret, Jean-François, ‘Compensation et arbitrage’ in Rapp, Jean-Marc and Jaccard, Michel (eds) Le droit en action (Lausanne: Faculté de droit de l’Université de Lausanne, 1996); Reiner, Andreas, ‘Aufrechnung trotz (Fehlens einer) Schiedsvereinbarung nach österreichischem Recht’ in Mayer, Heinz et al (eds) Recht in Österreich und Europa: Festschrift Karl Hempel zum 60. Geburtstag, (Vienna: Manz, 1997); Schöll, Michael, Set-off Defences in International Arbitration. Criteria for Best Practice—A Comparative Perspective, ASA Special Series No 26 (2006) 97; Söderlund, Christer, ‘Lis Pendens, Res Judicata and the Issue of Parallel Judicial Proceedings’ 22 J Int’l Arb (2005) 301; Stolzke, Sebastian, Aufrechnung und Widerklage in der Schiedsgerichtsbarkeit (Cologne: Carl Heymanns Verlag, 2006); Walter, Gerhard, Der lange Arm des Schiedsgerichts, SZZP (2006) 79; Zimmerli, Christoph, Die Verrechnung im Zivilprozess und in der Schiedsgerichtsbarkeit. Unter besonderer Berücksichtigung internationaler Verhältnisse (Basel etc: Helbing & Lichtenhahn, 2003). For jurisdictional problems of set-off in international civil procedure see, eg, Bucher, Eugen, ‘Kompensation im Prozess: Zurück zum materiellen Recht’ in Schütze, Rolf A (ed) Einheit und Vielfalt des Rechts, Festschrift für Reinhold Geimer zum 65. Geburtstag, (Munich: CH Beck, 2002) 97; Busse, Daniel, ‘Aufrechnung bei internationalen Prozessen vor deutschen Gerichten’ MDR (2001) 729; Coester-Waltjen, Dagmar, ‘Die Aufrechnung im internationalen Zivilprozeßrecht’ in Prütting, Hanns and Rüssmann, Helmut (eds) Verfahrensrecht am Ausgang des 20. Jahrhunderts, Festschrift für Gerhard Lüke zum 70. Geburtstag, (Munich: CH Beck, 1997); Gebauer, Martin, ‘Internationale Zuständigkeit und Prozeßaufrechnung’ IPRax (1998) 79; Gebauer, Martin, ‘Die Aufrechnung nach italienischem Recht vor deutschen Gerichten—prozessuale und materiellrechtliche Probleme’ Jahrbuch für italienisches Recht 12 (1999) 31; Gottwald, Peter, ‘Die Prozeßaufrechnung im europäischen Zivilprozessrecht’ IPRax (1986) 10; Graf, Werner, Die Verrechnung im internationalen Privatrecht (Zurich: Doctoral Thesis, 1951); Habscheid, Walther J, ‘Zur Aufrechnung (Verrechnung) gegen eine Forderung mit englischem Schuldstatut im Zivilprozess—Eine deutsch-schweizerische rechtsvergleichende Skizze’ in Barfuß, Werner, Dutoit, Bernard, Forkel, Hans, Immenga, Ulrich and Majoros, Ferenc (eds) Festschrift für Karl H Neumayer zum 65. Geburtstag, (Baden-Baden: Nomos Verlagsgesellschaft, 1985); Hartley, Trevor, ‘Case review of the decision of 13 July 1995 of the European Court of Justice’ 21 European Law Review (1996) 166; Jud, Brigitta, ‘Die Aufrechnung im internationalen Privatrecht’ IPRax (2005) 104; Kannengießer, Aufrechnung (1998); Kropholler, Jan, Europäisches Zivilprozessrecht: Kommentar zu EuGVO, Lugano-Übereinkommen und Europäischem Vollstreckungstitel, 8th edn (Frankfurt am Main: Verlag Recht und Wirtschaft, 2005) para 42 et seq;

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speaking, a special case of legal defence: in order to assess whether the main claim has been (partially) extinguished by way of set-off, it must first be assessed whether the cross-claim with which set-off is sought exists. It is, thus, necessary to adjudicate the legal relationship underlying the cross-claim. In those jurisdictions where set-off is considered as substantive, the adjudication is a matter of substantive law and may be subject to another judicial competence than the primary claim. In the area of international commercial arbitration, there are, roughly speaking, two constellations where the issue of judicial competence is of practical significance. On the one hand, a state court may be confronted with a cross-claim which, if it were brought independently, would have to be heard by an arbitral tribunal. On the other hand, an arbitral tribunal may be asked to decide over a cross-claim relied on by way of a set-off defence which is governed by a forum selection or another arbitration clause. Nowadays, most of the questions have been clarified. There is continued acceptance of the view that the question of whether a set-off should be heard will primarily depend on the interpretation of the parties’ arbitration agreement.42 If the parties provide that setting off a cross-claim which is subject to another jurisdiction is excluded, this will be authoritative for the arbitral tribunal. Such exclusion can be either explicit or implicit, for instance by choosing a specialised tribunal for the claim which is used to exercise set-off, or if expedited procedures are provided for either of the claims.43 If no such exclusion has been made, the vast majority in legal literature agrees that a set-off with a cross-claim for which the tribunal would not be competent should be heard, even if the cross-claim with which set-off is sought contains a forum selection or an arbitration clause providing for another tribunal.44 The Swiss Rules of 2004 explicitly provide for Oberhammer, Paul, ‘Internationale Rechtshängigkeit, Aufrechnung und objektive Rechtskraftgrenzen in Europa’ IPRax (2002) 424; Reischl, Klaus, ‘Verfahrenskonzentration durch Aufrechnungseinrede im europäischen Zivilprozess’ IPRax (2003) 426; Wagner, Gerhard, ‘Die Aufrechnung im Europäischen Zivilprozeß’ IPRax (1999) 65; Werner, Michael, Widerklage auf nationaler und internationaler Ebene (Berne etc: Verlag Paul Haupt, 2002) 42 et seq. 42 Dasser in Honsell, Heinrich, Vogt, Nedim Peter, Schnyder, Anton K and Berti, Stephen V (eds), Basler Kommentar, Internationales Privatrecht, 2nd edn (Basel: Helbing & Lichtenhahn, 2007) Article 148 para 25 et seq; Keller and Girsberger in Girsberger, Daniel, Heini, Anton, Keller, Max, Kren Kostkiewicz, Jolanta, Siehr, Kurt, Vischer, Frank and Volken Paul (eds), Zürcher Kommentar zum IPRG, 2nd edn (Zurich: Schulthess, 2004) Article 148 para 58; Berger, RIW (1998) 426, 428. 43 Keller and Girsberger in Girsberger, etc (above n42) Article 148 para 59, 60; Berger RIW (1998) (above n41) 426, 428; Schöll, ASA Special Series No 26 (2006) 97, 131 et seq; Vischer, Frank, Huber, Lucius and Oser, David, Internationales Vertragsrecht, 2nd edn (Berne: Staempfli Publishers, 2000) para 1143. 44 Berger, RIW (1998) (above n41) 426, 428 et seq; Dasser in Honsell, etc (above n42) Article 148 SPILS para 27; Pittet, Compensation (above n41) para 219 et seq; Kellerhals and Berger, Mélanges Knoepfler (2005) (above n41) 207, 219; Berger and Kellerhals, Schiedsgerichtsbarkeit (above n41) para 485; Pavic´ , Counterclaim and Set-off (above n41) 101, 106 et seq; Schöll, ASA Special Series No 26 (2006) (above n41) 97, 131; Vischer, Huber and Oser, IVR (above n43) para 1144; Keller and Girsberger in Girsberger et al (eds) (above n42) Article 148 para 58; see also Rüede, Thomas and Hadenfeldt, Reimer, Schweizerisches Schiedsgerichtsrecht, 2nd edn (Zurich: Schulthess, 1993) 160.

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such a rule,45 and the future Swiss Civil Procedure Act states a similar rule with regard to domestic arbitration.46 Such explicit provisions may (still) be unique. However, even jurisdictions where the question of judicial competence has traditionally been answered in a restrictive manner, the rule has considerably been perforated. Although the rule is still that set-off is deemed to be excluded if the cross-claim would be subject to another jurisdiction, the exceptions to this rule dominate in practice.47 In summary, the issue of judicial competence with regard to set-off has been eased to a large extent. Accordingly, when discussing possible amendments to the UNCITRAL Model Law on International Commercial Arbitration, the Draft Revision Committee concluded that there would be no need to include a provision which would clarify this question.48 Also outside arbitration proceedings, the jurisdictional question has lost much of its initial significance. Within Europe, at least, the European Court of Justice has given some guidelines under the Brussels Convention,49 which eliminate several of the above-mentioned questions and bear relevance also under the EC Regulation (Brussels I Regulation), which has replaced the Convention with the exception of Denmark. It is thus clear that Article 6 No 3 Brussels Convention/ Brussels I Regulation, which states that it takes connectivity of the claims in order to establish judicial competence over the second claim, applies to counterclaims only, but not to set-off. Despite some uncertainty shortly after the European Court decision was released, the vast majority50 today agrees that the decision is to be read as that the exercise of a set-off is governed by substantive law and should not be impeded by procedural requirements such as requiring judicial competence. The tendency to permit a set-off defence even if the court were not competent to adjudicate the cross-claim has taken shape.

45

Article 21(5) of the Swiss Rules. Article 377(1) of the Swiss Civil Procedure Act, entering into force on 1 January 2011. 47 For an overview see Coester-Waltjen, Festschrift Lüke (1997) (above n41) 35, 41. 48 See Sanders, Pieter, ‘UNCITRAL’s Model Law on International and Commercial Arbitration: Present Situation and Future’ 21 Arb Int (2005) 443, 477. 49 Case C-341/93 Danvaern Production A/S v Schuhfabriken Otterbeck GmbH & Co, [1995] ECR I-2053. 50 Bacher, Gabriela, ‘Zuständigkeit nach EuGVÜ bei Prozessaufrechnung’ Neue Juristische Wochenschrift (1996) 2140, 2141; Busse, MDR (2001) 729 et seq; Coester-Waltjen, Festschrift Lüke (1997) (above n41) 35, 39 et seq; Dasser in Honsell, Vogt, Schnyder and Berti (eds) (above n44) Article 148 SPILS para 23; Gebauer, IPRax (1998) (above n41) 79, 82 et seq; Gebauer, Jahrbuch für italienisches Recht 12 (1999) (above n41) 31, 54; Gruber, Urs Peter, ‘Ungeklärte Zuständigkeitsprobleme bei der Prozessaufrechnung’ IPRax (2002) 285, 287 et seq; Hausmann in Reithmann, Christoph and Martiny, Dieter (eds), Internationales Vertragsrecht. Das internationale Privatrecht der Schuldverträge, 7th edn (Cologne: Verlag Dr Otto Schmidt, 2010) para 3090; Kannengießer, Aufrechnung (above n18) 191; Kropholler, Europäisches Zivilprozeßrecht (above n41) para 42 et seq; Mankowski, Peter, [case review] Zeitschrift für Zivilprozeß 109 (1996) 376, 381 et seq; Nagel, Heinrich and Gottwald, Peter, Internationales Zivilprozessrecht, 6th edn (Cologne: Verlag Dr Otto Schmidt, 2007) para 101; Philip, Allan, Set-Offs and Counterclaims Under the Brussels Judgments Convention, IPRax (1997) 97 et seq; Spellenberg Ulrich, in Münchener Kommentar, Vol 10, 4th ed (Munich, CH Beck, 2006) Article 32 EGBGB para 78. 46

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B Choice-of-law Questions Over the dispute on jurisdictional matters concerning set-off, the question of the applicable law has been neglected in recent times. It goes hand in hand with the divergence of set-off systems that there are hardly any legal provisions dealing with set-off on an international level. Most conflict of laws rules do not provide for an express rule as to which law applies to a set-off. The plain explanation for this usually is that the matter is too complex to be dealt with in legislation.51 The parties could, of course, settle the question of the applicable law in the contract. However, as will be seen, a general contractual choice-of-law clause does not per se encompass set-off.52 Only if both the primary claim and the cross-claim arise out of the same contract will the law chosen in the contract also govern set-off. However, if the primary claim and the cross-claim are of different origin, it will depend on the applicable conflict of laws approach with regard to set-off whether the contractually chosen law expands to set-off. Apart from a general choice-oflaw clause, the parties usually also retain the right to specifically choose the law that should govern a possible future set-off. However, such specific choice of law is extremely rare in practice. The law applicable to set-off is thus hardly ever determined ‘subjectively’ by the parties. The methods of ‘objective’ determination by the applicable conflict of laws rules, again, are multifarious. The variety of perceptions leads to uncertainty in legal matters and thus unpredictability of the law. In order to remove the present uncertainty, there are two possible solutions. The first is to unify the differing choice-of-law approaches. This approach aims at unification on the ‘coordination level’. It leads to a uniform choice-of-law rule, where the substantive law level is not touched upon. It is taken as an unshakeable predisposition that, in the merits, a domestic law of set-off must be applied. The approach to unify the conflict of laws rules is a cautious and pragmatic one. It is cautious by remaining in the paths of traditional choice-of-law doctrines, by avoiding a concussion of the established idea that the levels of choice of law and applicable substantive law are strictly separated. It is pragmatic by striving for an unrevolutionary goal. What is sought for is the ‘best conflict of laws rule’, which is a task that does not follow the traditional paths. However, the uniform conflicts rule approach will determine a domestic law. The national character of that law may be in contrast to the international texture of the cases that are subject to those domestic provisions. Set-off is a field of the law where consistent, uniform rules might be particularly needed. The fact that it is a legal instrument which is

51 See, eg, Lando, Ole, ‘The Conflict of Law Rules Respecting Set-Off and Counterclaim (Compensation) and an Analysis of the Reasoning Used’ in Grönfors, Kurt, Hellner, Jan and Persson, PG (eds) Festskrift till Knut Rodhe (Stockholm: Norstedt, 1976) 311 and elsewhere, especially 325; Lando, Ole, In International Encyclopedia of Comparative Law, Chapter 24: Contracts (Tübingen etc: JCB Mohr, 1976) para 227 in fine, with further references. 52 For a detailed discussion see below at 138 et seq.

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supposed to enhance efficiency and facilitate transactions clashes with the fact that, in the guise of domestic provisions, set-off takes on a peculiarly domestic, almost antique character. This drawback of the uniform conflicts rule approach would be avoided if the uniform set-off rules approach was followed. This second approach aims at finding internationally uniform rules which would govern set-off in a cross-border case. A set of rules could be developed which would be drawn on whenever the question arose of whether the right of set-off could be exercised and what effect such set-off would have. The direct approach is more courageous than the development of a uniform choice-of-law rule. It departs from the traditional paths of law determination by leaving out the conflict of laws level and directly striving at a uniform substantive rule (the term ‘substantive’ is used here for a delimitation of choice-oflaw rules and law applicable in the merits, without predicating anything about the character of the rule as either procedural or substantive). However, the development of directly applicable uniform rules of set-off raises questions of legitimacy and feasibility, which have to be dealt with carefully.53 The discussion of the advantages and disadvantages of the two approaches and answering the question of whether one is preferable to the other each requires, first and foremost, an investigation of the law of set-off in selected legal systems. It will be examined whether domestic set-off concepts differ so significantly from each other as to complicate or even impede the use of set-off as a defence in international cases. The results of this comparative overview will form the basis for the subsequent discussion of law-determination methods regarding set-off. Various ways of determining the rules applicable to a set-off in international arbitration will be analysed and compared. The goal is to elaborate a uniform solution for treating the question of the applicable rules of set-off which lives up to the international character of the cases involved in international arbitration.

V Terminology A ‘Set-off ’ Versus ‘Compensatio’ Before starting with the comparative analysis, a terminological issue should be clarified. Several legal systems, such as France,54 Spain,55 and Italy,56 use a term

53

Below at 191−94. cf art 1289 Code Civil: ‘Lorsque deux personnes se trouvent débitrices l’une envers l’autre, il s’opère entre elles une compensation qui éteint les deux dettes, de la manière et dans les cas ci-après exprimés’ (emphasis added). 55 cf art 1.195 Código Civil: ‘Tendrá lugar la compensación cuando dos personas por derecho propio, sean recíprocamente acreedoras y deudoras la una de la otra’ (emphasis added). 56 cf art 1241 Codice Civile: ‘Estinzione per compensazione. Quando due persone sono obligate l’una verso l’altra, I due debiti si estinguono per le quantità corrispondenti, secondo le norme degli aritcoli che seguono’ (emphasis added). 54

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derived from the Latin term compensatio. Others, such as Austria, Scotland, and Switzerland, use compensatio as an alternative to the expression in the language of the country (‘Aufrechnung’, ‘set-off ’, ‘Verrechnung’).57 Considering the multitude of jurisdictions employing the term compensatio, this notion could lend itself as a superordinate term for the present analysis. However, the term has a different meaning in common law jurisdictions. In those laws, ‘compensation’ basically refers to an ‘indemnity for damages’.58 For the purpose of our analysis, the use of compensatio/compensation might, therefore, be a source of misunderstanding if used in connection with English law or English-based jurisdictions. The common law term ‘set-off ’ is considerably less ambiguous—it has no legal meaning other than that a cross-demand is set up by the debtor against the creditor’s demand. Since this understanding rules out any possible terminological confusions, the Anglo-Saxon term ‘set-off ’ will mainly be used in this study. However, nothing seems to militate against occasionally referring to compensatio/ compensation in conjunction with Roman law and Roman-based jurisdictions where the danger of ambiguity is virtually nonexistent.

B ‘Set-off ’ Versus ‘Counterclaim’ ‘Set-off ’ should be understood in a neutral way, detached from any domestic legal system. The term will be used as an umbrella term which covers all means of defence by raising a cross-claim, whether within or outside judicial proceedings.59 A neutral terminology implies that terminological differentiations with a distinctly ‘national’ flavour will be avoided. For instance, the terms ‘objection’ (‘Einwendung’) and ‘exception’ (‘Einrede’) are particular to the Roman-law jurisdictions. In this context, they relate to the fact of whether a set-off raised in court constitutes the assumption of a fact (which must be considered ex officio) or of a right (which must be relied on by one of the parties).60 Maintaining such

57 On Austrian law see, eg, para 1438 of the Austrian Civil Code (ABGB); Koziol, Helmut and Welser, Rudolf, Grundriss des bürgerlichen Rechts, Vol II, 13th edn (Vienna: Manz, 2007) 101 et seq; Dullinger, passim. On Scottish law see Loyd, 64 U Penn L Rev (1916) (above n17) 541, (554). Also in Switzerland, the term ‘Kompensation’ is sometimes used instead of ‘Verrechnung’, see, eg, decision of the Swiss Federal Tribunal, 4 March 1897, DFT 23 II 774, 775; Aepli in Gauch, Peter (ed), Kommentar zum Schweizerischen Zivilgesetzbuch, Vol V, Obligationenrecht, 3rd edn (Zurich: Schulthess, 1991) Vorbemerkungen zu Articles 120–126 para 8 et seq; Bucher, Festschrift Geimer (2002) (above n41) 97, and elsewhere; Koller, Alfred, ‘Die Verrechnung nach schweizerischem Recht’ 3 recht (2007) 101. 58 Peel, Edwin, Treitel’s The Law of Contracts, 12th edn (London: Sweet & Maxwell, 2007) para 20–003 et seq; McKendrick, Ewan, Contract Law: Text, Cases and Materials, 3rd edn (Oxford: University Press, 2008) 830 et seq. This holds true not only for English law: the Germanic jurisdictions also use ‘Kompensation’ on occasion within the meaning of ‘indemnity’ for loss of value, see, eg, Werro, Franz, La responsabilité civile (Bern: Staempfli Editions, 2005) para 1, 4; Honsell, Heinrich, Schweizerisches Haftpflichtrecht, 4th edn (Zurich: Schulthess, 2005) para 8, 8. 59 As to the different ways of raising a set-off see below at 124−127. 60 For a detailed discussion of the use of those terms in Swiss law cf, eg, Pittet, Compensation (above n41) n 13 et seq.

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terminological differentiation would be obstructive to a comparative analysis like the one at hand, which includes also legal systems of a different heritage, such as the common law jurisdictions. Instead, a neutral formulation will be used in order to emphasise the difference where it is of significance. Set-off has famously been described as ‘a shield, not a sword’.61 It constitutes a counter-argument to the creditor’s claim. Hence, set-off is a defensive instrument which the debtor puts forward because it wants to avert the creditor’s claim. If the creditor had not issued a claim, there would be no set-off. Set-off is thus dependent on the creditor’s raising a claim against the debtor. In this respect, set-off must be distinguished from a counterclaim. A counterclaim is a ‘sword, not merely a shield’. It is an independent claim against the claimant which turns the claimant into a defendant with regard to the counterclaim.62 The counterclaim bears similarities with the instrument of set-off in that it is brought in response to the claimant’s claim and is included in the same proceedings as the claimant’s claim.63 However, the counterclaim is not defensive. A counterclaim combines two or more procedures for economic and practical reasons. It is usually granted in proceedings because the facts for adjudicating the primary claim and the facts for assessing the counterclaim will be the same. It is therefore reasonable to have the claim and the counterclaim decided by the same judicial authority.64 As the counterclaim is a non-defensive device, the outcome of a counterclaim proceeding can differ from that of a set-off proceeding. When raising the defence of set-off, the result will be either a judgment in favour of the claimant for a lesser sum or a judgment for the defendant because it has successfully argued that the claimant’s claim is extinguished.65 However, as the defendant, by relying on set-off, does not raise a proper claim but just a defence, the success of a set-off can only consist of a being freed from a claim. In contrast, a counterclaim is a proper claim alleging a right for payment or other kind of performance. Thus, a successful counterclaim will not only negate the legitimacy of the primary claim, but it may lead to enforceable entitlements against the claimant.

61 Stooke v Taylor (1880) 5 QB 569, per Cockburn CJ (at 575) (‘The plea [of set-off] can only be used in the way of defence to the plaintiff ’s action, as a shield, not as a sword.’). See also Rawley v Rawley (1876) 1 QB 460. 62 Loyd, William H, ‘The Development of Set-off ’, 64 U Penn L Rev (1916) (above n17) 541, 567; Hartley, 21 European Law Review (1996) (above n41) 166, 167. 63 Derham, Set-off (above n7) para 1.04; Werner, Widerklage (above n41) 7 et seq. 64 Werner, Widerklage (above n41) 5 et seq; Kidwell in Halsbury’s (above n11) para 409; Derham, Set-off (above n7) para 1.04; Staehelin, Adrian, Staehelin, Daniel and Grolimund, Pascal, Zivilprozessrecht (Zürich: Schulthess 2008) para 31. 65 Hartley, 21 European Law Review (1996) (above n41) 166, 167.

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C ‘Cross-claim’, ‘Cross-demand’, and ‘Counter-demand’ The term ‘primary claim’ will be used to identify the claim brought by the creditor. It is the claim which the debtor seeks to discharge by means of set-off.66 The claim with which the debtor wishes to effectuate set-off will be referred to as a ‘cross-claim’. The terms ‘cross-demand’ and ‘counter-demand’ will be used interchangeably with ‘cross-claim’. At first sight, this may displease the reader from a Germanic jurisdiction who is used to distinguishing between ‘Anspruch’, ‘Forderung’, ‘Schuld’, ‘Klage’, etc. These differentiations relate to the question of whether a right exists, whether it is asserted or whether it is claimed in judicial proceedings.67 However, from a comparative point of view, these differentiations are domestic particularities which may be traced back to the scientific editing of Roman law in continental Europe in the nineteenth century.68 They have no exact equivalent in the common law jurisdictions. Therefore, the term ‘claim’ will be used in this analysis. Where it is of significance, neutral language will be used to make a respective distinction.

66 This appears to be the commonly used term in English, see, eg, Wood, Set-Off (above n4) para 1.5; Bertrams, Festschrift Kokkini-Iatridou (above n3) 153, 154. 67 For details see, eg, Gauch, Peter, Schluep, Walter and Emmenegger, Susan, Schweizerisches Obligationenrecht Allgemeiner Teil, Vol II, 9th edn (Zurich: Schulthess, 2008) para 23 et seq. 68 For a good illustration of the scientification of Roman Law that took place in the 19th century in continental Europe see Puchta, Georg Friedrich, Pandekten, 10th edn, (Leipzig, 1866) 1 et seq, and on the differentiation between substantive rights and procedural claims ibid, 125 et seq. On the latter point see also Bucher, Eugen, ‘Für mehr Aktionendenken’, Archiv für die civilistische Praxis 186 (1986) 1, 2 et seq.

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2 Set-off in a Comparative Survey

This chapter starts with an overview of the Roman law of set-off and the traces left in modern laws of set-off (section I). It will then focus on Romanic (section II) and Germanic (section III) jurisdictions, and subsequently deal with set-off in English law (section IV). A comparative analysis discussing similarities and differences of the various domestic set-off concepts will round off the chapter (section V).

I Incipiencies: Roman Law A Introduction Modern laws of obligations belonging to the civil law tradition are based on Roman law.1 In the area of set-off, the traces left by Roman law are particularly visible. The Romanic branch of the civil law, including, among others, France, Belgium, Luxembourg, Italy, and Spain,2 and the Germanic branch, comprising, inter alia, Germany, Switzerland, Japan, and Greece,3 have each developed a law of set-off which claims to be the successor of ancient Roman law. However, the two set off branches have a different dogmatic structure. First and foremost, Romanic and Germanic laws of set-off differ on the aspect of how set-off is exercised; this refers to the operation of set-off.4 The Romanic and Germanic set-off concepts have also drifted apart with regard to the requirements which must be fulfilled for a set-off to take place. The differences are most obvious with regard to two criteria. They concern, on the one hand, the question of whether the cross-claim on which the debtor relies in order to assert set-off must be ascertained as to its amount or existence; this question is at times also referred to 1 Watson, Alan, Roman Law & Comparative Law (Athens, Georgia: The University of Georgia Press, 1991) 147 et seq; Zweigert, Konrad and Kötz, Hein, An Introduction to Comparative Law, 3rd edn (Oxford: Oxford University Press & Tübingen: Mohr Siebeck, 1998) 68. 2 Zweigert and Kötz (above n1) 68, 96 et seq. 3 ibid, 68, 141 et seq. 4 See below at 45−47, 66−69, 81−82, 91−92.

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as the ‘criterion of liquidity’. The second noticeable difference with regard to set-off requirements relates to the question of whether and to what extent the primary claim and the cross-claim must be connected with each other (criterion of connectivity). In contrast, in both legal families, the question of what the effects of a successfully exercised set-off are will be answered in a similar way. In order to understand why and to what extent French- and German-based set-off laws differ and whether those differences are in fact unbridgeable, it is apposite to begin the analysis with a synopsis of Roman law.5

B Development Zimmermann has noted that ‘set-off tends to be recognized only at a fairly mature stage within the development of a legal system’.6 It is probable that the reason for this delay lies in the contrast between the simplicity of the idea of set-off and the difficulty of its theoretical analysis.7 Pre-classic Roman law was outspokenly formal. In order to be valid, legal acts required the observation of particular, meticulously laid down rules.8 Consequently, the invalidation of a legal bond was bound to strict formalities. The legal relationship had to be terminated by a formal act which made it visible to everybody that the constituting act was being reversed (contrarius actus).9 Under these preconditions, the idea of extinguishing a debt through set-off could not 5 As Wolff has said, ‘[h]e who does not know ‘whence’ will not understand ‘today’ and ‘whither’.’ (Wolff, Jörg, ‘Kulturhistorische Grundlagen der Europäischen Rechtsgeschichte’ in Wolff, Jörg (ed) Kultur- und rechtshistorische Wurzeln Europas (Mönchengladbach: Forum Verlag Godesberg, 2005) 9). 6 Zimmermann, Reinhard, Comparative Foundations of a European Law of Set-Off and Prescription (Cambridge: Cambridge University Press, 2002) 19. See also Ourliac, Paul and de Malafosse, J, Droit romain et ancien droit: les obligations (Paris: Presses universitaires de France, 1957) 200 para 190; Baudry-Lacantinerie, Gabriel and Barde, Louis, Traité théorique et pratique de droit civil. Des obligations, 3rd edn (Paris: Recueil Sirey, 1908) para 1804; Loyd, William H, ‘The Development of Set-off ’ 64 University of Pennsylvania Law Review (1916) 541, 543; Hunter, William A, A Systematic and Historical Exposition of Roman Law, In the Order of a Code (Holmes Beach, Florida: Wm W Gaunt & Sons, 1994 reprint) 832. 7 cf Girard, Paul Frédéric, Manuel Elémentaire de Droit Romain (Paris: Librairie Edouard Duchemin, 1978) 749; Terré, François, Simler, Philippe and Lequette, Yves, Droit civil, Les obligations, 10th edn (Paris: Dalloz, 2009) 1390, para 3. 8 See, eg, Mommsen, Theodor, Römische Geschichte I, 6th edn (Berlin, 1874 (reprinted in Neu Isenburg: Melzer Verlag, 2006)) 156 et seq; Jhering, Rudolf von, Geist des römischen Rechts auf den verschiedenen Stufen seiner Entwicklung, Part II, 9th edn (Aalen: Scientia Verlag, 1968, reprint of the Leipzig edition of 1894) 16. An illustrative example is the mancipatio, the early ritual required to make a valid transfer of property. ‘[I]n the presence of not less than five Roman citizens of full age and also a sixth person, having the same qualifications, known as the libripens, to hold a bronze scale, the party who is taking by the mancipatio, holding a bronze ingot, says: “I declare this slave is mine by Quiritary right, and he be purchased to me with this symbolic price to him from whom he is receiving by the mancipatio […]” The bronze ingot and scale are used because formerly only bronze money was in use; there are asses, double-asses, half- and quarter-asses, but neither gold nor silver money was current, as we may gather from the law of the Twelve Tables. The value of these pieces was reckoned not by counting but by weighing.’; Gaius, 1.119, 1.122 (translation by de Zulueta, 1946). 9 Dernburg, Heinrich, Geschichte und Theorie der Kompensation nach römischem und neuerem Rechte, 2nd edn (Aalen: Scientia Verlag, 1965, reprint of the Heidelberg edition of 1868) 19 et seq.

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gain ground. Only real performance, that is, the publicly visible actual transfer of what was owed, gave the creditor satisfaction and security.10 To replace performance by set-off with a cross-claim—a ‘virtual act’—was unimaginable. One could suggest that set-off was perhaps possible when made officially visible, for example, when advanced in judicial proceedings. However, this was not allowed either. The formalism of those days was an all-embracing and overarching principle which encompassed all areas of the law, including the law of civil procedure. The enforcement of obligations required certain well-defined rituals, the slightest breach of which caused the respective party to lose its right. Early Roman law—as well as other archaic legal systems—was governed by the late principle of ‘the unity of the question’.11 In order to facilitate the task of the judge and avoid delays, the claimant was restricted to asking the judge one single question. This rule applied all the more to the defendant: it could well argue that the claim for which it was being sued had never existed or had been extinguished, but the defendant could not formulate a counter-demand in order to defend itself.12 It could thus not rely on the existence of a claim of its own as a reason for not paying its debt. Such counter-demand could only be submitted to the judge in a second trial. Part of this procedural rigidness was that, in litigation, the plaintiff received all or nothing. The formally strict legis-actiones-system13 with its fixed verdicts, as it existed at that time, was incapable of coping with a second claim brought as a defence by the other party. The iudex was directed to either find for the plaintiff or completely absolve the defendant.14 There was no third possibility, such as a partial admission of the claim caused by approval of a set-off defence.15 This rigour was relaxed when the legis-actiones-system was supplemented by the more flexible per-formulas-procedure. ‘Certainly before the delegate-judge, and perhaps in the formula as well, the defendant was also allowed to plead a sort of counterclaim: compensatio.’16 In fact, unlike the legis actio, the

10

ibid. Von Jhering, Geist römischen Rechts (above n8) 13 et seq; Ourliac and de Malafosse (above n6) 200 para 190; Baudry-Lacantinerie and Barde (above n6) para 1804; Carbonnier, Jean, Droit civil, tome 4 / Les obligations, 22nd Edn (Paris: Presses universitaires de France, 2000) para 340. 12 Girard, Droit Romain (above n7) 749. 13 The legis-actiones-system is the earliest Roman civil procedure system: the praetor (the magistrate entrusted with jurisdictional competence) would announce an edict at the beginning of his magistracy in which all actions recognised in his court were listed. These praetorial forms of actions—the legis actiones—did not permit counterclaims, see Ourliac and de Malafosse (above n6) 200 para 190; Girard, Droit Romain (above n7) 749. 14 The judicial proceedings themselves were divided into two parts: the plaintiff stated its claim before the praetor (so-called ‘in iure’-proceedings), the defendant responded according to the prescribed ritual, and the praetor referred the case to a delegate-judge (a iudex) for decision (so-called ‘apud iudicem’-proceedings), see Kaser, Max and Knütel, Rolf, Römisches Privatrecht, 19th edn (Munich: CH Beck, 2008) para 80–9 et seq; Tigar, Michael E, ‘Automatic Extinction of CrossDemands: Compensatio from Rome to California’ 53 California Law Review (1965) 224, 227. 15 Honsell, Heinrich, Römisches Recht, 6th edn (Vienna: Springer Verlag, 2006) 87. 16 Tigar, 53 Cal L Rev (1965) (above n14) 224, 229. 11

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formula 17 allowed for integration of defences on behalf of the defendant, a so-called exceptio.18 That the rigidness of the ancient ius civile was attenuated in the third century BC (243) may be explained with the appointment of the praetor peregrinus.19 The praetor peregrinus’ primary source of law was not the ius civile, but the ius gentium, ‘the body of rules common to the commercial practice of the polyglot community of bankers, traders, and businessmen who carried on Rome’s foreign commerce’.20 Since the praetor peregrinus was not bound by the strict rules of the ‘genuine Roman law’ (ius civile), he could administer the law more flexibly than the praetor urbanus (the ‘Roman praetor’), who, at first, continued to apply ius civile. However, as the ius civile, overtly and otherwise, borrowed from the ius gentium, it was only a matter of time until compensatio was allowed in the jurisdiction of the urban praetor as well.21 The rapid development of Roman law, which was stimulated by the more innovative practice of the praetor peregrinus, may find a parallel in modern life, where the ‘polyglot community’ of international arbitrators advances the law and occasionally takes the liberty of doing away with incrusted legal positions which can only be explained historically and have, on closer inspection, lost their legitimacy long ago. This issue will be readdressed later.22

C Operation of Set-off in Roman Law—The Various Stages i Iudicia Bonae Fidei At its inception, compensatio was available only in bonae fidei transactions. These must be distinguished from transactions stricti iuris. Iudicia stricti iuris were formally strict, followed by tight interpretation rules; examples are the stipulatio, legatum per damnationem, and condictio.23 The iudicium bonae fidei, in contrast, was a ‘good faith action’. Judgment was given for that amount which just men would say the defendant ought to pay. The praetor simply advised the iudex to

17 With the formula, the praetor instructed the administrating delegate-judge (iudex) in writing as to how to adjudicate the case if evidence would prove the claimant’s rightfulness, cf Kaser and Knütel, Römisches Privatrecht (above n14) para 80–9. 18 With an exceptio, the defendant alleged that, although the requirements of the actio raised by the claimant might be met, an exception applied which turned matters to the defendant’s favour, see Hunter, Roman Law (above n6) 794; Honsell, Römisches Recht (above n15) 86. 19 The latter magistracy was created to hear cases in which aliens were parties. Until then, non-Romans were excluded from the courts; they were rightless, and their situation was ameliorated only piecemeal, cf Kaser and Knütel, Römisches Privatrecht (above n14) paras 80–9, 80–15; Tigar, 53 Cal L Rev (1965) (above n14) 224, 227 et seq. 20 Tigar, 53 Cal L Rev (1965) (above n14) 224, 228. 21 ibid. 22 Below at Ch 3. 23 Kaser and Knütel, Römisches Privatrecht (above n14) para 33–10.

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order the defendant ‘to perform what it owed to claimant in good faith’ (quidquid ob eam rem Nm Nm Ao Ao dare facere oportet ex fide bona).24 In light of the good faith basis of bonae fidei transactions, the defendant was continuously allowed to raise objection before the iudex that it should not be required to pay the full price because, for example, the goods were of poor quality.25 In other words, the defendant could raise a compensatio (set-off) objection. Gaius’ Institutes, written about 140 AD, contain the earliest surviving discussion of compensatio: 61. … [In actions of good faith (bonae fidei actions), however, the judge (iudex) is seen to be allowed full discretion to work out the sum to be restired to the pursuer on the basis of what is fair and reasonable. This] includes account being taken of the pursuer’s own duties arising from the same grounds of action. Condemnation is for the balance. 62. Now the actions based on good faith are these: buying and selling, leasing and hiring, unsolicited administration, mandate, deposit, trust conveyance (fiducia), partnership, guardianship, the action for a wife’s property. 63. Now the judge is free to take no account whatever of reciprocal liability for set-off; for it is not something explicitly triggered by the wording of the formula. But because it is seen as appropriate to proceedings involving good faith, it is therefore believed to be within the scope of his duties.26

Gaius’ Institutes illustrate that the judge was entirely free to consider a crossdemand. He could take it into consideration, but he had no obligation to do so. If, for instance, ascertainment of the cross-demand was likely to delay the proceedings unduly, he could refuse to take account of it. The defendant was then free to institute a separate action.27 The second point to be noted is that only cross-demands arising out of the same transaction (ex eadem causa) would be considered. In contrast, the claims could be of a different nature (ex dispari specie).28 The primary claim could, for instance, be for payment of the contract price, whereas the cross-claim could be for a reduction of the price according to the shrinkage in value. The defaulting party was always condemned in money, according to the principle of omnis comdemnatio pecunaria.29

24 Abbet, Stéphane, De l’exceptio doli à l’interdiction de l’abus de droit (Zurich: Schulthess, 2006) 8 et seq; Zimmermann, Reinhard, The Law of Obligations, Roman Foundations of the Civilian Tradition (Oxford: Clarendon Press, 1996) 761 et seq. 25 Ourliac and de Malafosse (above n6) 201 para 192; Tigar, 53 Cal L Rev (1965) (above n14) 224, 229. 26 Gaius, 4.61–4.63 (translation taken from Gordon, WM and Robinson, OF, The Institutes of Gaius (London: Duckworth, 1988) 451 et seq (1988)). 27 Girard, Droit Romain (above n7) 750; Hunter, Roman Law (above n6) 832; Zimmermann, Law of Obligations (above n24) 762. 28 Ourliac and de Malafosse (above n6) 201 para 192. 29 Zimmermann, Law of Obligations (above n24) 762.

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ii Iudicia Stricti Iuris While, in its beginnings, compensatio clearly was a ‘good faith instrument’—not allowed as a plea where the old strict formalities applied in court (stricti iuris obligations), and admissible only in the more flexible category of bonae fidei contracts—it was only a matter of time until compensatio was also adopted in iudiciis stricti iuris. As with bonae fidei contracts, the court, when adjudicating iudicia stricti iuris, enjoyed a certain leeway as to whether it heard the set-off or not. Set-off in iudiciis stricti iuris was treated differently depending on whether the cross-claim with which the defendant wished to set off was ascertained as to its existence and amount so that no further examinations were required in this respect. In the Roman law literature, this requirement is sometimes also referred to as the need for the cross-claim to be ‘liquidated’.30 Where the cross-claim was liquidated, the praetor asked the claimant to reduce his claim to the balance, under threat that, otherwise, the claimant’s entire claim would be rejected. An unliquidated crossclaim was not entirely excluded from set-off; however, it could only be brought in the technically challenging way of an exceptio doli.31 In order for the unliquidated cross-claim to qualify as an exceptio doli, the defendant asserting the set-off had to prove that the claimant fraudulently negated the defendant’s cross-claim.32 Furthermore, at least originally, exceptio only had the effect of rejecting the claimant’s action in its entirety. A mere reduction was not possible.33 The exceptio doli was, thus, not a proper set-off instrument. It was the threat to insert the exceptio into the formula which forced the claimant to reduce his pretentions right from the beginning.34 In summary, setting off with unliquidated crossclaims in stricti iuris proceedings was somewhat troublesome and had an uncertain outcome. The requirement that the cross-claim be ascertained as to its amount and existence (‘liquidity’) played a role both for stricti iuris transactions and bonae fidei iudicia. In the first group, there was a clear-cut line between ascertained (‘liquidated’) and non-ascertained (‘unliquidated’) claims. A non-liquidated claim hindered the assertion of a set-off, and the trial took place without taking 30 Dernburg, Kompensation (above n9) 555 (‘Liquidität einer Forderung liegt vor, wenn deren Existenz und Höhe für den erkennenden Richter bereits eine gewisse ist, so daß eine weiter [sic] Untersuchung und Prüfung derselben nicht nothwendig ist.’). 31 Honsell, Römisches Recht (above n15) 113; Abbet, Exceptio doli (above n24) 22; Abbet (above n24) 12 et seq, on the exceptio as a general instrument in Roman civil procedure. 32 Ourliac and de Malafosse (above n6) 202 para 192 (‘Le créancier commet un dol en demandant l’exécution d’une dette dont le défendeur pourrait réclamer la restitution.’). 33 cf Loyd, 64 U Penn L Rev (1916) (above n6) 541, 542; Kaser and Knütel, Römisches Privatrecht (above n14) para 53–30. In contrast, Tigar, 53 Cal L Rev (1965) (above n14) 224, 231, interprets the fact that a compensatio could be asserted via exceptio doli as an expansion of the prior function of the exceptio. According to Tigar, the exceptio was no longer an ‘all-or-nothing-defence’, but rather allowed to make, in principle, judgment for the claimant, but reduce his claim to the extent compensatio was granted. 34 See Abbet, Exceptio doli (above n24) 143.

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the set-off defence into account. In contrast, the iudex adjudicating a bonae fidei iudicium could choose to allow for a set-off defence even if the cross-claim were unliquidated.35 The discrepancy between stricti iuris and bonae fidei transactions regarding the liquidity-criterion can be explained by the different forms of proceedings. The formally strict proceedings in stricti iuris required a set-off to be formally asserted by way of the procedural instrument of exceptio where the cross-claim was unliquidated. In the less formal proceedings in bonae fidei transactions, there was no such requirement. The iudex was simply equipped with broad discretion regarding the consideration of a cross-claim.

iii Special Cases Interestingly, if the claimant was a banker (argentarius), it was obliged to raise its action taking into account of set-off. The banker who sued its customer was granted a formula which required it to establish its customer’s cross-demands and to reduce its own claim accordingly. The banker’s claim was thus an actio stricti iuris in which an automatic set-off was built into the formula itself. ‘If, for instance, he owes ten thousand sestertii to Titius, and Titius twenty thousand to him, his statement of claim runs thus: “If it appears that Titius ought to give him ten thousand sestertii more than he himself owes Titius”.’36 The cross-demands which the banker was obliged to take into account in its claim did not have to arise out of the same contract. There was thus no requirement of connectivity of the primary claim and the cross-claim. It was, however, required that the customer’s cross-claim related to things of the same kind and nature as the argentarius’ primary claim. Given the type of contract, money was by far the most important object.37 If it turned out that the banker had claimed for too high an amount, it lost its entire claim. This was ‘the harsh consequence of pluris petitio’.38 Another special kind of formula affected the purchaser of the property of an insolvent estate (bonorum emptor). If it instituted an action against the debtors, it had to deduct from its claim whatever it owed to them by virtue of having become the insolvent person’s successor.39 This procedural obstacle thrown in the way of the bonorum emptor was not a set-off proper but a so-called deduction. The difference between the set-off imposed on the banker and the deduction applied to the buyer of a bankrupt estate was that, in the deduction, things not of the same class were brought in. ‘[I]f, then, the bonorum emptor demands money from Titius, and owes Titius corn or wine in turn, he deducts its value from the 35

See Gaius, 4.63 (above at 25 (n26)). Gaius 4.64 (translation by Hunter, Roman Law (above n6) 832 (1994)). 37 Ourliac and de Malafosse (above n6) 200 para 191; Zimmermann, Law of Obligations (above n24) 764. 38 Zimmermann, Law of Obligations (above n24) 765. See also Ourliac and de Malafosse (above n6) 200 para 191. 39 Kaser and Knütel, Römisches Privatrecht (above n14) para 53–29; Zimmermann, Law of Obligations (above n14) 765. 36

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money, and takes proceedings for the rest.’40 Thus, unlike in the argentarius’ action, it was not required that the primary claim and the cross-demand were of the same kind.41 Moreover, deduction by the bonorum emptor referred to cross-demands that would be due on a specified future day. In contrast, set-off by the banker related to cross-demands that had become due at the time of the trial.42

iv Set-off Under Justinian a

Development of the Roman Post-classical Judicial System

Over the centuries, the peculiarities of the classical formulary procedure fell away. Post-classical procedure was no longer divided into two different stages. The distinction between the functions of the praetor and the delegate-judge (iudex) was abandoned, and the former proceedings in iure and apud iudicem were combined in a single proceeding before an adjudicating person who was responsible for conducting the procedure from the beginning to the end.43 The actiones had lost their specific procedural significance, and the differences between stricti iuris and bonae fidei iudicia had largely been levelled out.44 The transition to more flexible procedural structures brought about also an expansion of the possibility to set off cross-demands. The Corpus Iuris Civilis of Justinian45 of the sixth century AD provided for thoroughly revised and modernised set-off rules.

40

Gaius, 4.66 (translation by Hunter, Roman Law (above n6) 833 (1994)). Kaser and Knütel, Römisches Privatrecht (above n14) para 53–29. Gaius, 4.67 (translation by Hunter, Roman Law (above n6) 833 (1994)). 43 Girard, Droit Romain (above n7) 755. 44 Zimmermann, Law of Obligations (above n24) 766; see also Kaser and Knütel, Römisches Privatrecht (above n14) para 88–1 et seq. 45 The Corpus Iuris Civilis was issued in three parts, in Latin, at the request of Emperor Justinian in the years 529–534. The first part was the Codex Justinianus, which compiled all of the extant imperial constitutiones from the time of Hadrian. It used both the Codex Theodosianus and private collections such as the Codex Gregorianus and Codex Hermogenianus. The second part, the Digest (Digesta) or Pandects (Pandectae), was issued in the year 533; it compiled the writings of the great Roman jurists such as Ulpian along with current edicts. The third part, the Institutes (Institutiones), was intended as a sort of legal textbook for law schools. Later, Justinian issued a number of other laws, mostly in Greek, which were called Novels (Novellae). The texts of the Corpus Iuris Civilis formed the basis for the reception of Roman Law in continental Europe from the 11th century on. They have been edited and translated into many languages. The excerpts of the Corpus Iuris Civilis which are quoted in this book are taken from Hunter, A Systematic and Historical Exposition of Roman Law, In the Order of a Code (1994 reprint). 41 42

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Ex officio Compensatio?

The Dispute over ‘Ipso Iure Compensatur’ Our knowledge of the Roman law is derived from the work of scholars who, from the twelfth century on, concentrated on editing, preparing, processing, structuring, and analysing Roman legal sources. ‘The Glossator’s marginal notes, explaining, discussing and comparing the text in the scholastic manner aimed to re-establish the authority of Roman law as living law.’46 Many later glossators of the Middle Age held that, under Justinian at the latest (sixth century AD), the instrument of set-off had turned into something like a mandatory device. It was held that the judge was now obliged to deduct a cross-demand which was ascertained as to its amount and existence from the claim, irrespective of whether the defendant asserted the objection of compensatio or not. This position was essentially based on a passage of the Corpus Iuris Civilis which stated the formula ‘ipso iure compensatur’.47 The early glossators interpreted these words as meaning that a set-off necessarily had to take place, regardless of whether the defendant relied on set-off as a defence. The theory that compensatio took place by operation of law, without the defendant’s assertion was prevailing for a while, and it has directly influenced the European codifications dating from that time, such as the French Code Civil, the Austrian ABGB, and codifications based on one of these two.48 The interpretation of set-off as an automatism was doubted by a later school of thought. Pandectists of the nineteenth century ascribed only formal significance to the term ‘ipso iure compensatur’. The ‘ipso iure’-formula was no longer regarded as an instruction to the judge that an automatic extinction of crossclaims took place. The formula was compared with other passages of the Corpus Iuris Civilis, and this systematic and context-oriented approach obviously suggested that the term ipso iure was to be understood differently. Ipso iure was understood as being opposed to ope exceptionis (by way of exception). Thus, according to the proponents of the nineteenth century school of thought, all the formulation ‘ipso iure’ stated was that compensation need no longer be raised in the formal way of exceptio.49 It should only indicate that the court was required

46

Tigar, 53 Cal L Rev (1965) (above n14) 224, 241. Domat, Les lois civiles dans leur ordre naturel 284 (1713). See Loyd, 64 U Penn L Rev (1916) (above n6) 541, 543; Ourliac and de Malafosse (above n6) 203 para 193. 49 The view began to prevail that ‘there [was] no reason why [the Corpus Iuris] should have given up established opinion […] and should now hold that the claims cease to exist from the moment of their coexistence without [one of the parties] requesting so and without human effort. Nobody who knows the steady step of development of Roman law will deem it possible that the way on which [they] had paced off for centuries were suddenly left and the opposite aspect was adopted offhand.’ Dernburg, Kompensation, 294 (‚[Es ist] kein Grund ersichtlich, warum man die überkommene Auffassung […] aufgegeben haben sollte, um anzunehmen, dass sich die Forderungen ohne Antrag der Partheien und ohne menschliches Zuthun vom Augenblick ihrer Coexistenz an aufhöben. Niemand, der die stetige Weise römischer Rechtsentwicklung kennt, wird es für wahrscheinlich halten, daß man den Weg, auf den man Jahrhunderte lang fortgeschritten war, plötzlich verließ und 47 48

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always to take into consideration a liquidated set-off defence whenever it was brought in the current trial, be it by informal assertion (as had hitherto been the case in bonae fidei transactions) or be it by assertion of set-off made by way of an exceptio doli in strictis iudiciis.50 The difference between the interpretation given to ipso iure compensatur by the early glossators and the approach taken by later scholars was that, according to the latter, set-off still had to be asserted by the defendant, whereas the former considered set-off as an automatism applying even against the defendant’s will. In the middle of the nineteenth century, the Pandectistic view won recognition among European scholars of the nineteenth century and found its way into the German Bürgerliches Gesetzbuch as well as into other codifications with a German law influence. The dispute as to the meaning of ‘ipso iure’ in the Corpus Iuris Civilis can thus be said to have been settled in favour of the Pandectistic approach. For a number of decades, with set-off having safely been settled in domestic codifications, the relevance of the dispute had shrunk to a merely dogmatic issue of legal history. The Significance of the Ipso Iure-Dispute in the 21st Century However, of late, the former debate over the ‘ipso iure compensatur’ doctrine has been unexpectedly revived. The reasons for the revival lay in the widespread and extensive discussions that are going on with regard to harmonisation, unification and common-core-filtering of domestic private laws. It is largely a myth to assume that unification of laws is a neutral process. It is true that neutrality may be characteristic of international rules when such rules are specifically tailored to address a genuinely transnational question or a particular problem linked to globalisation, as it is the case, for example, in multinational customs treaties or currency agreements. Instead, whenever unification stands for the search of common rules for a question which has already

ohne Weiteres zu einem entgegengesetzten Gesichtspunkte übersprang’) (emphasis in the original). See also Carbonnier, Les obligations (above n11) para 340; Dernburg, Kompensation (above n9) 282 et seq; Eisele, Fridolin, Die Compensation nach römischem und gemeinem Recht (Berlin: Weidmannsche Buchhandlung, 1876) 133 et seq; Puchta, Georg Friedrich, Pandekten, 10th edn (Leipzig, 1866) 457. In modern literature see Pichonnaz, Pascal, La compensation: analyse historique et comparative des modes de compenser non conventionnels (Fribourg: éditions universitaires, 2001) para 1134 et seq; Pichonnaz, Pascal, ‘Einige Gedanken zur Rückwirkung der Verrechnung’ in Geiser, Thomas et al (eds) Privatrecht im Spannungsfeld zwischen gesellschaftlichem Wandel und ethischer Verantwortung, Festschrift für Heinz Hausheer zum 65. Geburtstag, (Berne: Staempfli Publishers, 2002) 69, 71 et seq; Zimmermann, Comparative Foundations (above n6) 24 et seq. (‘This phrase [“ut actiones ipso iure minuant”], […] seems to be in strange contrast to the language used in other places of the Corpus Juris, […]’); Zimmermann, Law of Obligations (above n24) 767; Girard, Droit Romain (above n7) 755; see also Kaser and Knütel, Römisches Privatrecht (above n14) para 53–31. 50 cf the detailed depiction of the various opinions in Dernburg, Kompensation (above n9) 281 et seq; Eisele, Compensation (above n49) 186 et seq, 214 et seq; Baudry-Lacantinerie and Barde (above n6) 137 para 1804; Enneccerus, Ludwig and Lehmann, Heinrich, Recht der Schuldverhältnisse, Ein Lehrbuch, 15th edn (Tübingen: Mohr, 1958) para 69 II (277); in recent literature see Pichonnaz, Festschrift Hausheer (above n49) 69, 71 et seq.

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been solved on a local level by domestic laws, neutrality of the unifying instrument is at best the goal. In reality, more often than not, unification is likely to be a power struggle between the drafting countries involved. The content of the final product will very much depend on which countries have taken the lead in the drafting process. In the course of developing denationalized (‘a-national’) rules and principles reflecting a common understanding of merchants (‘lex mercatoria’) in the field of set-off, domestic jurisdictions are thus also competing in a race in which they hope to offer their own rules as models or at least to impose something of their old domestic law in the transnational rules. However, the development of transnational rules should not ignore history. To the contrary, meaningful harmonisation or unification of the law requires to look back at the roots of one’s own domestic law and to properly understand it. In that respect, the precise knowledge of the old ipso iure compensatur dispute may be particularly useful. It should in fact help the French-law based jurisdictions avoid the mistake of proposing the French ipso iure rule as an international model. Indeed, historic analysis shows clearly that this model was based on a misinterpretation of Roman sources51. Today, at the international level, this mistake should be avoided. c

Allegation of Fact or Submission of Claim?

However the notion ‘ipso iure’ used in the Institutes and the Digest of the Corpus Iuris Civiles52 was understood, it left one more question open. If the defendant pleaded compensatio, was the plea regarded as the submission of a countervailing claim for judicial disposition? Or was it to be considered as the allegation of the fact that there had been countervailing obligations which, at the moment they first coexisted, had automatically and mutually extinguished one another? The practical inference of this dispute is that, in the former case, compensatio would arguably operate prospectively, from the time of judgment. That is, the claims would be considered to have been set off against each other as of the date judgment was rendered. If the assertion of set-off in court was seen as the allegation of something that had already happened, that is, of a set-off that had occurred, a judicial declaration that compensatio had taken place would be recognition of an existing state of affairs.53 This recognition could operate either

51 cf Girard, Droit Romain (above n7) 755 (‘Mais c’est à tort qu’on a longtemps prétendu qu’il aurait reconnu une compensation légale éteignant de plein droit les dettes qui existent en sens inverse entre deux parties […].’). 52 Dig 6.2.11: ‘When one person owes another a debt without interest, and this other owed the first a debt with interest, following an order of Emperor Severus, interest is not due on the respective amounts.’ This seems to say that compensatio operated automatically to extinguish the claims, at the moment they coexisted and to the amount of the lesser debt, see Tigar, 53 Cal L Rev (1965) (above n14) 224, 232. Institutes 4.6.30: ‘We order that compensatio takes place as of right [ipso iure] in all actions, real or personal.’ 53 On the discussion see Tigar, 53 Cal L Rev (1965) (above n14) 224, 231.

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from the date of judgment (so-called ex-nunc-effect), or from the date the set-off situation arose (so-called ex-tunc-effect). The question was much discussed by later scholars, especially by the Pandectic school of the nineteenth century. The continental European Civil Codes drafted their set-off laws based on the analysis of Roman law sources and various attempts at their interpretation. These days, which are characterised by the internationalisation and globalisation of laws, the discussion as to whether the assertion of set-off constitutes the allegation of a fact or the submission of a claim for adjudication has been revived. Accordingly, there is again a debate on the point in time at which set-off is brought to bear.54 d The Requirement of Ascertained Claims (‘Liquidity’) as a Tool of Discretion What appears to be confirmed is that the judge enjoyed discretion when assessing whether a cross-demand was ascertained (and therefore had to be taken into account) or not. The Institutes of the Corpus Iuris Civilis state: We allow compensation when the credit offered in payment is liquidated, does not raise difficulties, and is susceptible of being easily adjudicated; for it is unjust that when a case has been proven after much discussion, the other party, who is almost convicted, can plead compensation against an ascertained and unmistakable debt, and defeat expectations by protracting the proceeding. Hence, we recommence [sic] that judges not lightly or with indifference admit compensation, but proceed strictly; and should it appear that the proposed compensation would require great and lengthy inquiry, we order that such a claim be saved for another action, and the former inquiry, almost entirely concluded, go to judgment. […]55 e

Connectivity and Similarity of Claim and Cross-claim?

In iudicia bonae fidei of the preclassical and classical period, it was required that the cross-claim arise out of the same legal relationship as the primary claim (so-called connectivity of claims). The Corpus Iuris Civilis appears to have abandoned that requirement.56 However, it was now required that both claims concern performances of the same nature and kind (so-called similarity of claims). The similarity requirement was a consequence of the fact that the principle of omnis condemnatio pecunaria had been dismissed in post-classical procedure and thus not every claim ultimately led to a condemnation to pay a certain sum of money.57 54 55 56 57

Below at 211−13. Institutes 4.6.30 (translation taken from Hunter, Roman Law, 832). Zimmermann, Law of Obligations (above n24) 766. Zimmermann, Law of Obligations (above n24) 767.

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D Observations and Comments i Set-off as a Procedural Mechanism in (Pre-)Classic Roman Law Under Roman law, compensatio was largely understood as a procedural device which was to be asserted in court. The defendant raised the objection that it had a counter-demand against the claimant and was therefore relieved from its performance to the extent the claims were congruent. In former times, whether and, if so, in what manner and under what circumstances claims could be set off depended on the nature of the formula applicable in a given situation.58 At that time, the Roman lawyers had no uniform, logical, and systematic approach to the problem of set-off. [W]hat we are faced with appears—at least from a modern perspective—as a rather confused hotchpotch of different principles and criteria, dictated by procedural niceties.59

The historical development goes from an initial forbiddance of set-off to piecemeal admissibility, starting with good faith transactions (bonae fidei iudicia) and, over the course of the centuries, also encompassing formally strict claims. In the latter cases, it was the exceptio doli mechanism which allowed for a set-off plea. The special cases of the argentarius, who was obliged to deduct its customer’s cross-claims ab initio, and the similar case of the bonorum emptor, come closest to the modern civil law understanding of set-off.60 Still, they differ in two aspects. First, the parties’ roles are, compared to modern set-off, converse. Unlike the common understanding that it is the defendant who benefits from set-off and therefore has to assert it, in the Roman special cases it was the claimant (the argentarius, bonorum emptor, respectively) who had to undertake the set-off; otherwise it ran the risk of losing its claim because of ‘pluris petitio’, that is, because it asked for a larger amount than was owed to it.61 The second difference to the modern law of set-off is that those special Roman set-off mechanisms were of a procedural nature. This is, as discussed below,62 an approach since widely abandoned in civil law countries. In Justinian’s times, set-off operated ipso iure. Early glossators interpreted this as a switch from a procedural to a substantive device. Set-off was assumed to have taken place at the time the claim and cross-claim coexisted, and the judge’s function was merely to establish that fact. Later glossators did not go that far in

58 Zimmermann, Law of Obligations (above n24) 761; Zimmermann, Comparative Foundations (above n6) 24, who points out that both Gaius and Justinian dealt with set-off as part of their discussion of the law of actions, that is, in procedural law. 59 Zimmermann, Law of Obligations (above n24) 765. 60 See also Berger, Klaus Peter, Der Aufrechnungsvertrag. Aufrechnung durch Vertrag, Vertrag über Aufrechnung (Tübingen: Mohr Siebeck, 1996) 60; Honsell, Römisches Recht (above n15) 112. 61 Kaser and Knütel, Römisches Privatrecht (above n14) para 83–8. 62 Below at 38 et seq, 62 et seq.

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their interpretation of ‘ipso iure’. For them, set-off remained a procedural instrument. It need be asserted in court, and a set-off would not take place until the judge had rendered his verdict. However, also under the more restrictive interpretation of the later glossators, it becomes clear that the hard shell of rigid procedural formalism which had originally encircled set-off was broken down in Justinian’s times and gave way to more informal means of defence.

ii Set-off Asserted in Court: Assertion of a Countervailing Right or Assertion of a Fact? Another question is how the modern legal systems rooted in Roman law tradition deal with the dispute of whether a set-off plea in court is an assertion of a countervailing right or rather an assertion of a fact, namely that the primary claim and the cross-claim have been extinguished as of the time they coexisted. This question touches upon the issue as to whether set-off is a procedural or a substantive means. If set-off must be pleaded in court, it is—at least to a certain extent—a procedural instrument. If only the fact that the two claims have been erased is pleaded in court, it is implied that set-off as such takes place without judicial help. It is, therefore, of a substantive nature. Early glossators had taken this to extremes by interpreting ipso iure as an automatic extinction of the countervailing debts, an interpretation that was successfully refuted later. However, this extended interpretation has undoubtedly had an influence on the modern understanding of set-off. This is seen not only in the provisions of the French Civil Code and other French-based jurisdictions reflecting the understanding of set-off as an automatism, a literal ipso iure mechanism;63 the ‘materialised’ reading of set-off also shows in other laws, which consider set-off as a self-help device taking place without judicial intervention.64

iii Judicial Discretion Another striking point is the discretion the praetor and the iudex have always enjoyed in deciding whether or not to deal with set-off objections. This judicial leeway did not change under Justinian. Although the judge at that time was obliged to take into account an existing cross-demand, this duty only applied if the cross-demand was ascertained as to its amount and existence and therefore ‘liquidated’. It was always in the judge’s hands to refuse to deal with a crossdemand that was difficult to adjudicate. It will be shown65 that the requirement of a liquidated cross-claim has partially survived in the present set-off laws and plays an even greater role in the on-going unification discourse.

63 64 65

Below at 45−47. Below at 45−47, 81−82, 91−92. Below at 126−27.

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iv Summary and Outlook This brief analysis of Roman compensatio raises three major questions of interest. (a) To what extent has modern legislation upheld the Roman principle that set-off has ‘a distinctly procedural flavour’;66 what extent has the character of set-off changed, and why? This question concerns the operation of set-off. (b) The second question touches upon the set-off requirements. What are the modern criteria that must be met in order for a set-off to take place? In particular, does modern law require the cross-claim to be liquidated, like Roman law, or does the modern judge enjoy any other discretion as to whether it hears the set-off objection or not? (c) To what extent has the ipso iure-formulation in the Corpus Iuris influenced modern legislation, and what are its practical consequences? This last question addresses the effect of a set-off. These three questions shall be examined in the following way. Romanic and Germanic legal systems will be analysed first, followed by an overview of common law rules on set-off. English and English-influenced law is particularly interesting in this respect, as it has not been remotely as influenced by Roman law as the continental European laws. The chapter closes with a discussion of the similarities and differences resulting from our comparative survey.

II Set-off in the Romanic Legal Systems The French Civil Code is the ‘parent of the Romanic legal family’.67 This chapter will thus deal primarily with the French law of set-off as settled in the Code Civil. The law of set-off of legal systems akin to French legislation, such as those of Belgium, Luxemburg, and Spain, will be referred to where appropriate. The private law of the Netherlands was originally influenced by the French Code Civil; in the meantime, they have adopted a new codification sufficiently departing from the Code Civil 68 so that it is no longer safe to regard Dutch law as part of the Romanic legal family.69 Instead, the Netherlands constitute an independent legal system, with partial influences from the Romanic, Germanic and Anglo-Saxon 66

Zimmermann, Comparative Foundations (above n6) 24. The notion of ‘parent of a legal family’ (‘systèmes souches’) has been established since Arminjon, Nolde and Wolff, Traité de droit comparé in 1950 (at 47 et seq); since then, see, eg, Legeais, Raymond, ‘Droit allemand et droit français dans les grandes classifications du XXème siècle’ in Werner, Olaf et al (eds) Brückenschlag für die Rechtsvergleichung, Festschrift für Hans G Leser zum 70. Geburtstag, (Tübingen: Mohr Siebeck, 1998) 279, 281. 68 Nieuw Burgerlijk Wetboek of 1992; for details as to its genesis see Volders, Bart, ‘The UNIDROIT Principles of International Commercial Contracts and Dutch Law’ in The UNIDROIT Principles 2004, Their Impact on Contractual Practice, Jurisprudence and Codification, Reports of the ISDC Colloquium (8/9 June 2996) (Zurich: Schulthess, 2007) 135 et seq. 69 See Zimmermann, Reinhard, ‘Die Aufrechnung, Eine rechtsvergleichende Skizze zum europäischen Vertragsrecht’ in Beuthien, Volker etc (eds) Festschrift für Dieter Medicus zum 70. Geburtstag, (Cologne: Carl Heymanns Verlag) 707, 708. 67

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jurisdictions, but also with innovations of their own. Thus, the Nieuw Burgerlijk Wetboek will be dealt with separately.70 Another special case is Italy. Its Codice Civile of 1942 no longer constitutes a mirror image of the French Code Civil. However, with regard to set-off, the Italian and French provisions are still quite comparable.71 It is therefore appropriate to count the Italian Codice Civile among the laws closely related to the French model. The comparative overview starts with an outline of pre-codified French law of set-off (section A) and will then focus on the French archetype of set-off (compensation légale), which has been settled in the Code Civil (section B), before turning to the possibility to autonomously agree on a set-off (section C). A third option to set off cross-demands (compensation judiciaire) exists on a procedural level, which is known to other legislations as counterclaim72 (section D). Furthermore, the set-off provisions of the preliminary draft of a revision of the Code Civil of 2005 (‘avant-projet Catala’) deserve closer attention (section E). A brief survey of set-off in other French-based jurisdictions will be given (section F) before summarising the results of the overview of Romanic set-off (section G).

A Historical Development i Introduction Articles 1289–1299 of the French Civil Code stand, to a large extent, in the Roman tradition. The strong influence of Roman law is to be credited for the rebirth of the latter in continental European doctrine and literature from the twelfth century on.73 However, although the revival of Roman law has moulded French law and other so-called civil law jurisdictions, the legal landscape in Europe, as it existed prior to the codification phase, was quite varied.74 Apart from the scientific preoccupation with Roman law, which, over the course of the centuries, became the primary source in private law matters in certain areas of Europe, there were other regions which were less influenced by Roman law. The law in these parts was mostly unwritten and lacked the scholarly rework and 70

Below at 205−06. See also Kannengießer, Matthias N, Die Aufrechnung im internationalen Privat- und Verfahrensrecht (Tübingen: Mohr Siebeck, 1998) 51; Gebauer, Martin, ‘Die Aufrechnung nach italienischem Recht vor deutschen Gerichten—prozessuale und materiellrechtliche Probleme’ in Jahrbuch für italienisches Recht 12 (1999) (Heidelberg: CF Müller Verlag, 1999) 31, 37 et seq. 72 ‘Compensation judiciaire’ is sometimes also labelled ‘compensation reconventionelle’, see Chabas, François, ‘Réflexions sur la compensation judiciaire’ Juris Classeur Periodique (1996) I, 2026; see also Carbonnier, Les obligations (above n11) para 339; Baudry-Lacantinerie and Barde (above n6) paras 1807, 1894 et seq. 73 Dernburg, Kompensation (above n9) 272 et seq; Tigar, 53 Cal L Rev (1965) (above n14) 224, 235. 74 Koschaker, Paul: Europa und das römische Recht, 4th edn (Munich/Berlin: Beck, 1966) passim. Esmein, Adhémar, Cours élémentaire d’histoire du droit français, 15th edn (Paris: Recueil Sirey, 1930) 20 et seq. 71

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scientific attention paid to the sources of the Roman law.75 Finally, almost simultaneously with the rediscovery of Roman law, a third layer of law began to spread all over Europe, namely the canon law reserved to ecclesiastical matters.76 Hence, private law in pre-codified Europe was complex. Moreover, over the centuries, the different sources of law were influencing each other.77 All over Europe, they were forming amalgams of different layers which would finally constitute the legal framework imparted to the legal instruments and mechanisms of private law at a given time in the various regions of Europe. The instrument of set-off is such a device which has taken a different shape, depending on the ‘blend’ of legal sources in the particular geographic region. The development in France is a particularly good example to show how the different legal sources left their mark on the modern French law of set-off. The precodified era in France therefore deserves a closer look. After the thirteenth century, France was split into two fairly distinct geographical areas. The northern two-thirds of the country were governed by customary law, that is, by legal rules which were based upon usage and tradition, rather than on statute. Each feudal fiefdom, principality or duchy had its peculiar mixture of rules descended from the barbarian invaders, more or less modified by Roman and canon influences. To the south, the medieval period saw the flourishing of ‘written law’ based upon Justinian, whose work had become the focus of scholarly study. The canon law comprised a third legal system, uniform throughout France. Based in its secular aspects upon Roman law, canon law influenced the secular courts and was applied directly to cases within the jurisdiction of the Christian courts.78 The view of compensatio differed in each of these three legal systems.

ii Customary Law In the part of France where customary law prevailed, each region had its own customary law uniformly applicable to all those domiciled there. Compensatio and counterclaim (the distinction will become relevant more than once)79 were devices that were, in principle, known to customary law. However, several sources have been found which testify that both set-off and counterclaim were prohibited at that time. Thus, the customary law of Lorris and Montargis, which was put in writing80 in 1531, flatly stated: 75 Koschaker, Europa und das römische Recht, (above n74 passim); Esmein, Histoire (above n74) 20 et seq. 76 ibid 77 ibid 78 Tigar, 53 Cal L Rev (1965) (above n14) 224, 235. 79 For an initial differentiation between set-off and counterclaim, which, in a comparative context, must by necessity remain simplifistic, see above at 20−21. 80 The monarchy encouraged reducing the customary law to writing in an attempt to introduce consistency and clarity in the law. When the law was written down and available for study, criticism by legal scholars prompted many fiefdoms to redraft, cf Esmein, Histoire (above n74) 824.

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Set-off in a Comparative Survey IX. Counterclaim takes place not at all in the secular court. X. Compensation [of cross-demands] takes place not at all in the secular court.81

Loysel’s summary of the customary law in 1608 was equally explicit: para 704. One debt prevents not at all the existence of another […] In a word, this means that where there are mutual and reciprocal debts, each of the parties must tender payment of that which is due, neither being able to counterclaim or compensate.82

The coutumes drew a distinction between set-off (compensatio) and counterclaim, although the legal consequence of the two instruments was the same: they were both forbidden. A major obstacle to the acceptance of set-off and counterclaim seems to have been jurisdictional covetousness.83 Bobé,84 a commentator on the custom of Meaux in 1683, mentioned two reasons for not allowing judicial set-off in the secular court. First, every time one wished to have its claim adjudicated, it was ordinarily required to sue the defendant in the latter’s jurisdiction. This held true not only for the actual claimant, but also for the creditor of the cross-claim. The plea of set-off as a defence in current proceedings did not comply with these rules of exclusive jurisdiction, since the claimant (the one against whom set-off was instituted) would become a counter-defendant not being sued in its jurisdiction. Second, the maintenance of the system of feudal justice, with obligations and rights inherited by lord and vassal alike, required that adjudications of property rights originating in Meaux not be subject to divestment in, for example, Lorris.85 The coutume of the Marche in 1521 made that quite clear: Counterclaim takes place not at all, unless the parties be domiciliaries of the same forum, in which case it takes place without a new action.86

In the course of the sixteenth century, however, the provincial view evidenced by these rules began to give way. This may be attributed to Roman influence and certainly also to the experience that the possibility to set off claims against each

81 Les coutumes anciennes de Lorris, des bailliages et prevosté de Montargis, ch 21, arts 9–10 (1531), in 3 Nouveau Coutumier Général (1724) 829 [the collection is hereinafter cited as NCG]. 82 Loysel, Antoine, ‘Institutes coutumières’ livre V, in Dupin, André and Laboulaye, Edouard (eds) (Paris: Videcq, Durand 1846 (first published in 1608)) livre V, tit II, para 3. 83 Tigar, 53 Cal L Rev 53 (1965) (above n14) 224, 237. (‘The view that feudal jealousy and insularity were chiefly responsible for the customary law’s refusal to cognize counterclaims is suggested by representative, though far from complete, evidence drawn principally from the officiallysanctioned expositions of customary law.’) 84 Bobé, Jean, Commentaire sur les coutumes générales du bailliage de Meaux; avec des notes sur la coutume de Paris (Paris: Christophe Journel, 1683) 444 (1683). 85 In the French original of those times, ‘[La reconvention] n’a pas lieu en Cour laïque pour deux raisons; la premiere, parce que regulierement le demandeur doit suivre la jurisdiction du défendeur; l’autre raison regarde la conservation & le maintien des justices qui font patrimonionales en France, & aux droits desquelles on donneroit atteinte s’il estoit permis d’en distraire les justiciables.’ (Bobé, Commentaire sur les coutumes générales de Meaux (above n84) 444 (1683)). 86 Coutumes générales du haut pays du comte de la Marche, para 102 (1521), in 4 NCG 1101.

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other corresponded to a commercial need.87 Accordingly, the Paris coutume, which in 1510 had laconically stated that ‘[c]ounterclaim, in the lay court, takes place not at all’,88 read quite differently in its 1580 version: A counterclaim in the secular court is not admissible unless it relates to the subject of the action, and the demand in counterclaim is a defence to the action first instituted; in this case the defendant, by means of his defence, may make himself plaintiff.89

Connectivity was used here as a criterion to establish jurisdiction. If the crossclaim related to the subject matter of the action, the court would hear it. This resembles Roman set-off in bonae fidei transactions, which allowed for a set-off with cross-claims arising ‘under the same transaction’.90 There was thus an element of equity both in adjudicating good faith transactions under Roman law and pronouncing judgments in late customary French law. The claimant who drew on the court had to come with clean hands. It should not be given full satisfaction while it owed something to the defendant in a connected matter. It can thus be said that, fifteen centuries past the Roman epoch, and under quite different political and territorial conditions, equity considerations re-emerged and dissipated territorial fears. The Paris provision bespoke a trend. Many other fiefdoms allowed counterclaim by the latter half of the sixteenth century.91 The differences between counterclaim and compensation, which we observed earlier, were maintained by many coutumes. While some forbade both, as was the case in the customary law of Lorris and Montargis, others opened up to compensatio at least and allowed it under certain circumstances, while not accepting the possibility of a counterclaim. In Paris, for instance, both the 1510 and the 1580 coutumes allowed for compensatio if the debts were liquidated and incontestable. Similar rules applied in Auvergne, Bourbon, Reims, the Marche, Meleun, Montfort, and Calais.92 The requirement that the cross-claim be incontestable was not introduced into the later Code Civil. The Roman law did not provide for such a rule, and the drafters of the Code Civil appear to have followed the Roman model in this respect. Practical considerations may also have played a role, since a non-contestability

87

Tigar, 53 Cal L Rev (1965) (above n14) 224, 238. Les Coutumes générales de la prevosté et vicomté de Paris, para 75 (1510), in 3 NCG 1. 89 Coutumes de la prevosté et vicomté de Paris, para 106 (1580), in 3 NCG 29. See also Bobé, Commentaire sur les coutumes générales (above n84) 444. 90 Above at 26−27. 91 eg Le coutumier du bailliage de Mante, art 1, para 3 (no date), in 3 NCG 173; Coutumes du comté et bailliage de Mante et Meullant, para 58 (1556), in 3 NCG 183; Coutumes du bailliage de Meleun, para 327 (1560), in 3 NCG 434; Coutumes du comté et bailliages de Montfort Lamaury, para 69 (1556), in 3 NCG 141 (requiring special dispensation); Coutumes générales de la cite et duché de Cambray, tit 25, paras 52–53 (1574), in 2 NCG 281; Coutumes de la ville de Calais et pays reconquis, para 223 (1583), in 3 NCG 1. 92 For details see Baudry-Lacantinerie and Barde (above n6) para 1804 (p 139 et seq). 88

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requirement would have prevented set-off in most cases. In contrast, the requirement that the cross-claim be liquidated was a prerequisite also common to Roman law, and, as we will see, it would find its way into the later Code Civil.93 Compensatio as opposed to counterclaim was obviously considered as operating automatically. Reciprocal debts were extinguished as of the moment of their coexistence.94 This is redolent of the initial interpretation given to Justinian’s ‘ipso iure compensatur’ by early legal scholars, who misconstrued the formula as an automatic extinction of countervailing obligations.95 The reason for treating compensatio and counterclaim differently is that the provincial quibbles impeding the acceptance of counterclaim did not apply with equal force to an automatic extinction of reciprocal debts. To allow compensatio did not require a defendant to surrender tangible property at the behest of a judge in a foreign forum.96

iii Canon Law Ecclesiastical courts apply canon law to all matters within their jurisdiction.97 The canon law of that time had adopted an approach to set-off that was quite similar to that of classic Roman law. Set-off was regarded as a purely procedural device and was only allowed as a defence in court proceedings. The cross-demand had to have some connection to the primary claim.98 Cross-demands at canon law of those times were heard before the same judge at the same time. The court rendered a single judgment adjudicating the respective claims. The cross-demand had the effect of ‘making the plaintiff into a defendant before the same judge’.99 Unlike droit coutumier, for the canonists, jurisdictional difficulties did not exist. The law was uniform throughout the church. Feudal jealousies were irrelevant. Quite simply, the canonists thought it wrong that a person could decline to have against itself in the same action a judge whose decision it respected as plaintiff.100 Canon law was, however, assiduous to protect its own jurisdiction. A defendant sued in a secular court by a cleric could not counterclaim about a matter cognisable by the ecclesiastical courts.101 Thus, although 93

Below at 47−50. See Baudry-Lacantinerie and Barde (above n6) para 1804 (p 142). 95 Above at 31−33. 96 Tigar, 53 Cal L Rev (1965) (above n14) 224, 239. 97 Valdrini, Patrick, Durand, Jean-Paul, and Vernay, Jacques, Droit canonique, 2nd edn (Paris: Dalloz, 1999). 98 Hericourt, Louis de, Les loix ecclesiastiques de France dans leur ordre naturel, et une analyse des livres du droit canoniques conferés avec les usages de l’église gallicane, 3rd edn (Paris, 1771) 87 (‘mais quand la réconvention contient une demande qui est absolument indépendante de la demande originaire, le défendeur ne peut l’employer’). 99 Hericourt, Les loix ecclesiastiques de France (above n98) 87. The canonists called this form of cross-action mutuae petitiones—‘mutual petitions’. 100 Tigar, 53 Cal L Rev (1965) (above n14) 224, 244. 101 3 Lancelotto, Institutiones Juris Canonici tit 9, para 1 (1704). This work, commissioned by Pope Paul IV as the canonical counterpart of Justinian’s Institutes, was first published in 1563; it never received papal approval, but is recognised as authoritative, see Sherman, Charles Phineas, Roman Law in the Modern World (Boston: The Boston Book Company, 1917) para 228. 94

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there were no jurisdictional issues among clerical courts, such issues certainly did exist between clerical and secular courts.

iv Written Law For a long time, the principal source of law in the southern part of France was Justinian’s Corpus Iuris Civilis.102 The influence of Roman law was accentuated in the twelfth century with the revival of Roman law study and exposition.103 By and by, the Corpus Iuris Civilis was moulded into the day-to-day rules of a feudal society. In the centuries before the codification of French law, glossators and commentators interpreted the ‘ipso iure compensatur’-formula of the Corpus Iuris to mean ‘by operation of law alone’. On this construction, compensation of crossdemands took place automatically, without the knowledge of the debtors, at the moment the two debts first coexisted, and to the amount of the lesser debt.104 The court was obliged to set off the respective claims ex officio.105 Under the pre-codified droit écrit, compensatio was thus operating as an automatism. The conclusion that follows from this is that set-off was considered as a device of substantive law. It took place out of itself, and the task of the court consisted merely in confirming that set-off had occurred.

v Summary This brief outline reveals a number of points. As with early Roman law, the possibility to defend oneself by way of set-off or counterclaim was not granted in the beginnings of French customary law. The reason was not so much that it was an archaic, simplistic system of civil procedure but rather one of jurisdictional greediness. When the latter was gradually eclipsed by economic considerations of convenience and efficiency, the mechanisms found for preventing too excessive a use of set-off resembled those used in classical Roman law. Set-off defences could be fenced off by requiring the cross-claim to be connected to the primary claim and ascertained as to its amount and existence. Some coutumes would even require the cross-claim to be uncontested. Thus, connectivity and determinateness of the cross-claim appear as time-tested criteria effective to anticipate frivolous set-off defences. Moreover, it becomes obvious that Roman law has had a strong influence, not only on droit écrit, but also on ius canonici and droit coutumier. The most striking impact is arguably the ‘ipso iure compensatur’-wording of the Corpus Iuris, which led the droit coutumier and the droit écrit alike to understand set-off as an

102 103 104 105

On the rules of set-off provided in the Corpus Iuris Civilis see above at 30 et seq . cf above at 38−39. Above at 31−33. Domat, Les lois civiles dans leur ordre naturel 285 (1713).

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automatic extinction of countervailing debts as of the time they faced each other for the first time. This might, at first, look like a departure from the classic Roman concept that set-off was a procedural instrument. At the same time, however, the survey reveals that droit coutumier as well as ius canonici assumed set-off to operate judicially. The customary law made the distinction between a substantively operating compensatio and a procedural counterclaim. Ius canonici provided merely for a procedural setting off of countervailing claims. The procedural character of set-off was, thus, not abandoned in medieval and early modern France. Instead, pre-codified French law distinguished between a substantive and a procedural instrument, allowing for two different forms of setting off debts. Ius canonici granted a judicial instrument only. The coutumes differed from each other. Some provided for a substantively operating compensatio, but not for a judicially operating counterclaim; others granted both remedies, namely compensatio rooted in substantive law and counterclaim settled in procedural law. With regard to the operation of set-off, the written law based itself on the Corpus Iuris’ ipso iure-formula and the scholarly interpretation of this formula prevailing at that time. Set-off was thus regarded as an automatically and substantively operating compensatio mechanism. Setting off cross-claims raised jurisdictional problems where it was perceived as a judicial instrument. Whenever the cross-demand was cognisable by another court than the one in which the main claim was pending, ius canonici and, in large parts, droit coutumier would grant no judicial set-off. In many coutumes, the rigour of this rule was alleviated in the second half of the sixteenth century. From then on, set-off was permissible when the cross-claim was connected to the subject matter of the action. This connectivity criterion was already known in Roman law106 and has relevance for most modern jurisdictions to the present day.107 Set-off in pre-codified France was governed by different layers of law. The law of set-off in the southern part of France was the Roman heritage of the droit écrit, whereas the set-off rules in the Northern part were customary (droit coutumier). Customary law varied from territory to territory. Moreover, the canon law as a third layer had its own law of set-off which differed both from the written and the customary law. The unification of French law, which was a major concern of the monarchy from the sixteenth century on,108 brought uniform rules of set-off. However, as will be be shown, the threefold sources of the law of set-off have left traces, making some aspects of the modern French law of set-off difficult to grasp.

106 107 108

Above at 27. See below at 126−27. Above at 38.

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B Set-off Under the Code Civil (Compensation Légale) In the course of the unification of French private law, the drafters of the Code Civil had to decide on a nationwide uniform concept of set-off. The result of these efforts reflects, in large parts, the Roman law of set-off. However, set-off in the Code Civil embraced Roman law as it was understood at that time. This is particularly reflected by the fact that it has been inspired by the meaning Roman scholars of that time ascribed to the wording ‘ipso iure compensatur’ used in the Corpus Iuris Civilis. Articles 1289 to 1299 of the Code Civil govern the so-called ‘legal set-off ’ (compensation légale), as opposed to ‘judicial set-off ’ (compensation judiciaire), which is dealt with in the Code of Civil Procedure. Operation of legal set-off will be discussed first (section i), followed by an overview of the requirements (section ii) and the effect of compensation légale (section iii). A brief summary will round off the picture (section iv).

i Operation Ipso Iure? The principle that countervailing debts may be set off is laid down in Article 1289 of the Code Civil.109 The way in which set-off operates is described in Article 1290, which embodies a literal interpretation of the Justinian ipso iure-formula: ‘Set-off is brought about as of right by the sole operation of the law, even without the knowledge of the debtors; [ . . .]’.110 Taken on its own, this article implies that cross-demands are extinguished automatically as of the time they coexisted. In practice, however, the ipso facto mechanism has become virtually meaningless. French courts nowadays require that the intention to set off be declared. Set-off cannot take place without a ‘manifestation de volonté’.111 The deviation from the wording of Article 1290 Code Civil came gradually. In a first step, the courts were ready to interpret the fact that the debtor had originally performed without hesitatation, to its disadvantage. For example, if the debtor had paid a debt without further ado, the courts began to assume that the parties had— explicitly or impliedly—excluded the defence of set-off.112 The second step was to 109 Article 1289 CC: ‘Where two persons are indebted to each other, set-off is brought about between them and both debts are extinguished, in the manner and in the cases hereafter laid down.’ (English translations of the Code Civil are taken from .) In the French original: ‘Celui qui a payé une dette qui était, de droit, éteinte par la compensation, ne peut plus, en exerçant la créance dont il n’a point opposé la compensation, se prévaloir, au préjudice des tiers, des privilèges ou hypothèques qui y étaient attachés, à moins qu’il n’ait eu une juste cause d’ignorer la créance qui devait compenser sa dette.’ 110 Article 1290 CC: ‘La compensation s’opère de plein droit par la seule force de la loi, même à l’insu des débiteurs;[…] .’ 111 Mendegris, Roger, Guide juridique Dalloz, Compensation, 125–1 (Paris: Dalloz (as at 1991)) para 10 (‘La mise en œuvre de la compensation ne peut résulter que d’une manifestation de volonté. [Une] expression minimale de volonté est indispensable.’) 112 Aubry, Charles, Rau, Charles and Bartin, Etienne, Aubry et Rau: Cours de Droit Civil Français, IV, 6th edn (Paris: Editions techniques, 1942) para 329, 356; Carbonnier, Les obligations (above n11)

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actually presume the abandonment of the right of set-off whenever a party did not put it forth in a judicial proceeding.113 Thus, the status quo of French ‘legal set-off ’ is that the judge must ignore the fact that the claims are eligible for set-off if the defendant does not assert it. In such a case, the judge must find for the claimant. The defendant must then commence a new action on its part to recover its cross-claim.114 As Zimmermann has put it: [T]he French solution is merely an attempt to make the best of the practically unsatisfactory, and much criticized, provision of Art 1290 code civil. It is based on the doctrinal anomaly that an automatic discharge of an obligation may not automatically be taken into account in judicial proceedings involving this obligation. This, in turn, is usually justified by imputing a waiver to a defendant who does not raise the defence of set-off in the course of the legal proceedings initiated against him by the claimant: an artificial construction that tends to contort the concept of a ‘waiver’.115

Thus, not much is left over from the original ipso-iure-principle. The automaticity of payment effectuated by the ‘set-off by law’ in French law should not be exaggerated. […] Its sole consequence is retroactivity; set-off goes back to the day where all its conditions were fulfilled.116

However, the ipso iure effect makes itself felt in at least one more respect. Because the legal concept does not require a declaration proper, set-off can also occur between parties that do not have legal capacity.117 The drafters of the Code Civil themselves did not always stay the principle of ‘ipso iure compensatur’. This is reflected in the wording of several Civil Code provisions, which seem to imply that the debtor must, indeed, assert set-off. For example, Article 1294 states that the debtor ‘may raise’ (‘peut opposer’) set-off. Similarly, rather than simply excluding the occurrence of set-off where a debtor has accepted the assignment of the creditor’s claim to a third party, Article 1295 states that, in such a case, the debtor ‘may no longer raise against the assignee a set-off ’ (‘ne peut plus opposer au cessionnaire la compensation qu’il eût pu’). para 338; Terré, Simler and Lequette (above n7) para 1407; Malinvaud, Philippe, Droit des obligations, 10th edn (Paris: Litec, 2007) para 816 in fine. 113

Terré, Simler and Lequette (above n7) para 1411; Carbonnier, Les obligations (above n11) para

338. 114 Baudry-Lacantinerie and Barde (above n6) para 1861; Carbonnier, Les obligations (above n11) para 338; Terré, Simler and Lequette (above n7) para 1408. See also Malinvaud, Obligations (above n112) para 816. 115 Zimmermann, Comparative Foundations (above n6) 34 et seq. 116 Malaurie, Philippe; Aynès, Laurent and Stoffel-Munck, Philippe, Cours de droit civil, tome VI, Les Obligations, 3rd edn (Paris: Defrénois, 2007) para 1191 (‘Il ne faut pas exagérer l’automaticité de payment que produit la compensation légale en droit français. […] Sa seule conséquence est la rétroactivité; la compensation remonte au jour où ses conditions sont réunies.’). See also BaudryLacantinerie and Barde (above n6) para 1861, who, from a dogmatic point of view, adhere to the automatic set-off, but concede that, in practice, ‘la plupart du temps le juge ignore l’existence de la compensation [et] il est indispensable que le défendeur la lui révèle et […] l’allègue en justice et fasse la prevue de sa créance […]’. 117 Mendegris, Guide juridique Dalloz 1991 (above n111) para 15; Aubry, Rau and Bartin (above n112) para 326, 346.

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Likewise, Articles 1296, 1298, second sentence, and 1299 all use the formula that ‘set-off be raised’.118 A pervasive idea of an automatic extinction of concurring debts would have rendered a declaration of set-off unnecessary. It would have been implied in the various provisions of the Civil Code referred to above. The dogmatically correct formulation would have been that ‘set-off occurs’ or ‘does not occur’ in such a situation. Thus, by referring to a ‘rais[ing] of set-off ’ throughout the set-off provisions, the Code Civil itself transgresses the premise of an ipso iure-operation.

ii Requirements Another salient feature of Roman heritage is that both the main and the cross-debt must be fully due and liquidated.119 This will be discussed first (section a). The remaining requirements for a valid set-off are common to most other set-off laws: claim and cross-claim must exist between the same persons and in the same right (réciprocité) (section b). Furthermore, they must be in the same coin (fongibilité): money for money, grain for grain, oil for oil (section c). Both debts must be enforceable (exigibilité) (section d). Eventually, the Code Civil lists several situations in which set-off is excluded in order to protect the interests of either one of the parties or of third parties (section e). In contrast, connectivity between the primary claim and the cross-claim is not required (section f). a

Ascertainment of Claims (Liquidity)

Uncertainties Regarding the Degree of Ascertainment Article 1291(1) Code Civil requires that both the primary claim and the crossclaim be ascertained (liquidated). The legal definition of ascertainment (liquidity) can be found in Article 4 of the Loi n° 91–650: ‘The debt is liquidated if it is

118 Article 1296 CC: ‘Where the two debts are not payable at the same place, set-off may be raised only by giving satisfaction as to the costs of delivery.’; art 1298 CC: ‘[A] person who, being a debtor, has become a creditor after an attachment has been made in his hands by a third party may not raise set-off to the detriment of the attaching party.’; art 1299 CC: ‘He who has paid a debt which was extinguished as of right by set-off may no longer, by enforcing the claim for which he has not raised set-off, avail himself of the prior charges or mortgages attached thereto, to the detriment of third parties, […].’ (Emphases added) 119 Article 1291(1) CC: ‘Set-off takes place only between two debts which have likewise as their object a sum of money or a certain quantity of fungibles of the same kind and which are likewise liquidated and due.’ (‘La compensation n’a lieu qu’entre deux dettes qui ont également pour objet une somme d’argent, ou une certaine quantité de choses fongibles de la même espèce et qui sont également liquides et exigibles.’) The proposal of Maleville, one of the members of the Conseil d’Etat, to allow for a compensatio even when the amount of the debt was not certain, but capable of easily being made certain, was rejected by the others, who argued that in situations such as those noted, the judge would allow a delay for ascertaining the claim in any event. See 5 Conférence du Code Civil, 124–25 (1805).

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quantified in money or if its title bears all elements allowing for its quantification.’120 The formula commonly used in literature is that a debt is liquidated if it is certain in its existence and determined in its amount.121 Both definitions are a substantiation of Domat’s formula that a claim that ‘obligeroit à une longue discussion’ is not capable of set-off, whereas a claim causing a merely modest delay for its ascertainment must be admissible for set-off.122 Thus, a claim is unliquidated if, in order to determine its amount, an expertise is required, accounts must be audited, or estates must be divided.123 Liquidity is seen as a mechanism to prevent the defendant from prolonging the action with questionable claims propounded against debts clearly due.124 The requirement of liquidated debts bears particular relevance for damages claims. A claim for damages, although it exists from the time the incident occurs, only becomes liquidated when a judge or the parties determine the sum due.125 Where debts other than damages are at issue, liquidity requires that the debt is not ‘seriously disputed’.126 The criterion of ‘serious disputing’ refers to the degree of opposing the cross-claim. Apart from strikingly obvious situations, it has remained unclear to date. It may be undisputed that simply denying the existence of the cross-claim will not suffice and that ‘serious challenge’ of the claim is required instead. However, which allegation will render the challenge of the primary claim ‘serious’ has been left to the courts to clarify. There is no fixed criterion as to when an unliquidated debt may be assumed, and thus little guidance in abstracto.127 Legal doctrine has identified some cases that may serve as indications, but those concern obvious situations such as that a fixed purchase price is liquidated, whereas a conditioned debt is not, because its existence is uncertain.128 Such simplified illustrations cannot be said to serve as a helpful rule in practice. Furthermore, in a recent case, the Cour de Cassation held that the

120 Loi n° 91–650 of 9 July 1991 on the reform of civil procedures on enforcement, art 4: ‘La créance est liquide lorsqu’elle est évaluée en argent ou lorsque le titre contient tous les éléments permettant son évaluation.’ 121 Baudry-Lacantinerie and Barde (above n6) para 1832; Carbonnier, Les obligations (above n11) para 337; Bénabent, Alain, Droit civil, Les obligations, 11th edn (Paris: Montchrestien, 2007) para 821; Malinvaud, Obligations (above n112) para 814; Malaurie, Aynès and Stoffel-Munck (above n116) para 1188. Domat, Les lois civiles dans leur ordre naturel 285 (1713). 123 Terré, Simler and Lequette (above n7) para 1396; Aubry, Rau and Bartin (above n112) para 326 (340). 124 Baudry-Lacantinerie and Barde (above n6) para 1830. 125 Baudry-Lacantinerie and Barde (above n6) para 1833 (171); Chabas, JCP 1996, I, 2026 (above n72) para 1149; Malaurie, Aynès and Stoffel-Munck (above n116) para 1188; Bénabent, Les obligations (above n121) para 821. 126 Civ, 11 March 1986, Bull civ I, n° 60. See also Baudry-Lacantinerie and Barde (above n6) para 1833 (170 et seq). 127 Carbonnier, Les obligations (above n11) para 337, comes to a similar conclusion. 128 Malaurie, Aynès and Stoffel-Munck (above n116) para 1188; cf also Baudry-Lacantinerie and Barde (above n6) para 1832; Carbonnier, Les obligations (above n11) para 337; Bénabent, Les obligations (above n121) para 821; Malinvaud, Obligations (above n112) para 814.

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set-off defence could not be prevented by the fact that the claims were unliquidated.129 The Cour de Cassation apparently took into account that the countervailing claims were connected with each other.130 Hence, ascertainment of the cross-claim appears as a set-off requirement that has not only unclear contours but, under certain circumstances, can also be ignored in its entirety. In fact, as will be shown, the connectivity criterion in the law of set-off is a phenomenon apt to mystify the foreign lawyer, as it is sometimes obviously used to cure the lack of certain set-off requirements (see below at 54). Uncertainties Regarding the Relevant Point in Time French literature and case law agree on the fact that the rationale of requiring ascertainment of the claims is to prevent the defendant from prolonging the action with questionable claims propounded against debts clearly due.131 The liquidity requirement should grant the judge considerable leeway in its decision as to whether or not to hear the cross-demand.132 In this respect, it must be noted that liquidity of the claims became a requirement of substantive law settled in Article 1291(1) of the Code Civil, whereas pre-codified French law used it as a judicial tool.133 The switch from procedural to substantive law had already been made in Domat’s grand oeuvre, Les loix civiles dans leur ordre naturel, of 1713.134 The reasons why the liquidity requirement shifted from procedural to substantive are disputed. Dernburg and Kegel hold that it was the French customary law which influenced the drafters of the Code Civil to include the liquidity requirement.135 In contrast, modern French literature claims that the liquidity requirement is of Roman heritage.136 In any event, both the droit écrit and the droit coutumier considered liquidity to be a procedural tool. Liquidity was used to prevent overly long and complicated proceedings. The change of liquidity from a procedural to a substantive requirement seems to have occurred in the course of the ‘scientification’ of the law in France.137 The academic study of Roman, but also of customary and canon law, consisted, among other things, of giving a ‘logical structure’ to the law. This was done in large part by drawing a sharp distinction between substantive and

129

Civ, 1re, 25 May 2004, Bull civ I, n° 143, Rev trim d. civ (2004) 513, note Mestre and Fages. Rev trim dr civ (2004) 513, note Mestre and Fages. Baudry-Lacantinerie and Barde (above n6) para 1830. 132 cf Civ, 22 November 1989, Bull civ, I, n° 356; Civ, 25 October 1961, Bull civ, II, n° 686. 133 See above at 40−42. 134 Domat, Les lois civiles dans leur ordre naturel, 285 (1713) (‘Ce n’est pas assez pour faire de compensation qu’il y ait une dette de part & d’autre, mais il faut de plus que l’une & l’autre de ces dettes soit claire & liquide, c’est-à dire, certaine & non sujette à contestation. […]’). 135 Dernburg, Kompensation (above n9) 290; Kegel, Gerhard, Probleme der Aufrechnung: Gegenseitigkeit und Liquidität, rechtsvergleichend dargestellt (Berlin and Leipzig: de Gruyter, 1938) 162. 136 Baudry-Lacantinerie and Barde (above n6) para 1832; Carbonnier, Les obligations (above n11) para 337; Bénabent, Les obligations (above n121) para 821; Malinvaud, Obligations (above n112) para 814. 137 Kegel, Aufrechnung (above n135) 162. 130 131

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procedural law. A ‘title’ was the right, the entitlement to do or obtain something; it was considered as substantive law. An ‘action’ was the procedural means by which the title was exercised.138 With regard to set-off, the adoption of pre-codified Roman and possibly customary law which had previously been intellectualised has led to difficulties. It is clear that, understanding set-off as an automatism taking place ipso facto, implies, at the same time, that set-off is an instrument of substantive law; no judicial act is needed for exercising set-off. As a logical consequence, all requirements for a set-off must be substantive law, too, including the requirement of liquidated claims. Nonetheless, the fact that liquidity became a substantive requirement in French law raises difficulties with regard to the point in time at which the claims must be liquidated. The wording of Article 1291(1) Code Civil suggests that the claims must be liquidated in order to be eligible for set-off. According to Article 1291(1), liquidity is a requirement for the set-off mechanism to take place. This is in concert with the concept that liquidity is a substantive criterion affecting the very question of eligibility for set-off as such. However, to require liquidity at the time the claims first face each other is in contrast with the rationale of liquidity, which is the prevention of protracted judicial proceedings. If it were only to avoid lengthy trials, the claims ought to be liquidated at the time of the proceedings, not at the time of the ipso iure set-off. On various occasions, French case law has tried to alleviate this inconsistency by requiring liquidity of the claims no sooner than when set-off is asserted in court.139 This has been done on an irregular basis. Obviously, this irregularity does not contribute to a clearer understanding of the liquidity requirement in the Code Civil. b

Reciprocity

Legal set-off only works if both parties are mutually debtor and creditor to the other party.140 In complex cases, for example where groups of companies with affiliates are involved or in cases where rights have (doubly, triply) been assigned, it may be difficult to establish who is the real owner of the respective right.141 The Code Civil holds a rule of interpretation with regard to assignments: a debtor who has accepted the assignment of creditor’s rights to a third party may no longer raise against the assignee a set-off which it might have raised against the

138 Thireau, Jean-Louis, ‘La doctrine civiliste avant le code civil’ in Poirmeur, Yves, Bernard, Alain et al (eds) La doctrine juridique (Paris: Presses Universitaires de France, 1993) 26 et seq. 139 See, eg, Cass, 7 February 1883, D 1883.85; Cass, 4 March 1867, D 1967.67 (quoted in Kegel, Aufrechnung (above n135) 167 et seq.). 140 Cass com, 9 May 1995, JCP 1995.II.22448, note Rémery; Malaurie, Aynès and Stoffel-Munck (above n116) para 1187 et seq; Baudry-Lacantinerie and Barde (above n6) para 1810; Aubry, Rau and Bartin (above n112) para 325 (337). 141 For details see Bénabent, Les obligations (above n121) para 819; Terré, Simler and Lequette (above n7) para 1394; Baudry-Lacantinerie and Barde (above n6) para 1810 et seq.

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assignor before the acceptance.142 An assignment which was not accepted by the debtor, but notice of which has been served upon it, prevents only set-off by the debtor against the assignee as to claims subsequent to that notice.143 Italian and Spanish law has adopted a similar rule.144 Modern case law has alleviated this rule somewhat. Even subsequent to the notification of assignment, the debtor can dispute the assignee’s claim that a set-off between the assigned claim and its cross-claim took place, if the two claims were connected with each other.145 Thus, connectivity of the claims leaves open the possibility of set-off in assignment situations beyond the wording of the Code Civil. An exception from the principle of mutuality is made for sureties. A surety may raise set-off for the amount the creditor owes to the principal debtor.146 The provision adds the obvious, namely that it is impossible for the principal debtor to set off what the creditor owes to the surety.147 c

Similarity of Obligations

Debt and cross-debt must refer to a similar obligation. For example, a debt for money cannot be set off against a debt to return goods.148 Likewise, set-off cannot take place where one obligation is about doing something and the second is about refraining from doing something.149 The content of the obligations must be the same, that is, they must both consist of a duty to pay or to render certain goods which are similar in kind. Without question, the most important case is the mutual obligation to pay money.150 However, it is not entirely unthinkable that there are mutual obligations ‘which have […] as their object […] a certain

142 Article 1295(1) CC (‘Le débiteur qui a accepté purement et simplement la cession qu’un créancier a faite de ses droits à un tiers, ne peut plus opposer au cessionnaire la compensation qu’il eût pu, avant l’acceptation, opposer au cédant.’). 143 Article 1295(2) CC (‘A l’égard de la cession qui n’a point été acceptée par le débiteur, mais qui lui a été signifiée, elle n’empêche que la compensation des créances postérieures à cette notification.’). 144 Article 1248(1) Italian Codice Civile; art 1198 Spanish Codigo Civil. 145 Civ, 3e, 30 March 1989, Bull civ, III, n° 77; Com, 5 December 1989, Bull civ, IV, n° 308; Com, 3 April 1990, D 1991.180; Com, 1 December 1992, D 1993.513, note Sortais; Com, 15 June 1993, D 1993.495, note Larroumet; Civ, 3e, 12 July 1995, Bull civ, III, n° 183; Civ, 2e, 12 October 2000, Bull civ, II, n° 138. 146 Article 1294(1) CC. 147 Article 1294(2) CC. For further reading see Baudry-Lacantinerie and Barde (above n6) para 1813. 148 Bénabent, Les obligationsm (above n121) para 820. 149 Baudry-Lacantinerie and Barde (above n6) para 1826. 150 Terré, Simler and Lequette (above n7) paras 1390, 1395; Bénabent, Les obligations (above n121) para 820; Carbonnier, Les obligations (above n11) para 337; Malinvaud, Obligations (above n112) para 814. The fact that the drafters of the Civil Code were primarily thinking of money debts is evidenced in art 1296. The provision, although applicable to all kinds of obligations eligible for set-off (including those not for money), reads: ‘Where the two debts are not payable at the same place, set-off may be raised only by giving satisfaction as to the costs of delivery.’ (Emphasis added)

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quantity of fungibles of the same kind’.151 A practically relevant field of application for this rule is the stock broker market with its security trading.152 Furthermore, there is a little used rule153 according to which ‘[p]erformances in crops or commodities which are undisputed and whose price is fixed by market lists, may be set off against liquidated and due sums’.154 The reason for allowing for set-off with obligations which are not of the same kind is the possibility to quickly ascertain the value of the non-monetary obligation and therefore have it easily liquidated. Apart from that, the rule appears to be reminiscent of classic Roman law, where similarity of the claims was not required in the Institutes by Gaius.155 It also appears to bear some vague resemblance to the special rule where the buyer of a bankrupt estate, who wished to bring claim against the debtors, was obliged to deduct from his claim whatever he owed to them and who, by doing so, had to consider also claims which sounded in delivery of things not of the same kind and nature.156 It is not quite clear whether money debts expressed in different currency are ‘similar obligations’ within the meaning of Article 1291(1) Code Civil. The question concerns constellations such as the following: if B owes A a sum defined in Swiss francs and A owes B a sum indicated in Euro, can the two debts be set off? Older case law denied set-off in those cases,157 based on the argument that monetary debts were unliquidated as long as they were not converted into the same currency. The question is not yet clarified, as it has not been exposed to any significant discussion. The few voices that have addressed the issue of late seem open to the idea of setting off monetary debts of different currency.158 There has not been any case law so far which would confirm the modern approach promulgated in literature. d

Enforceability of Primary Claim and Cross-claim

Legal set-off is excluded where one of the debts has not yet become due159 and where it is subject to a condition precedent or is otherwise unenforceable.160 Unenforceability includes so-called naturales obligationes, that is, obligations 151

Article 1291(1) CC. Mendegris, Guide juridique Dalloz 1991 (above n111) para 3. 153 Baudry-Lacantinerie and Barde (above n6) para 1827 et seq, especially para 1829; Mendegris, Guide juridique Dalloz 1991 (above n111) para 4; Terré, Simler and Lequette (above n7) para 1395. (‘Cette innovation des rédacteurs du code, dont le bien fondé et l’opportunité sont loin d’être évidents, ne paraît pas avoir connu beaucoup d’applications.) 154 Article 1291(2) CC. 155 See above at 26−27. 156 Above at 29−30. 157 CA Besançon, 12 November 1932, Gaz Pal 1933, 2, p 80; CA Paris, 19 July 1943, Rev trim dr civ (1944) 117, note H and L Mazeaud. 158 Terré, Simler and Lequette (above n7) para 1395; Malaurie, Aynès and Stoffel-Munck (above n116) para 1188. 159 Article 1291(1) CC. 160 Baudry-Lacantinerie and Barde (above n6) para 1838. 152

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which are not enforceable but which allow the recipient to retain performance once it has been effectuated.161 Furthermore, unenforceability refers to unliquidated debts.162 The French law requirement of both claims being enforceable is more rigid than in other set-off laws, which settle for enforceability of the cross-claim, whereas for the primary claim, the mere capability of being performed suffices.163 The rigidness follows from the ipso iure-effect of set-off. Since set-off takes place automatically once the claims are eligible for set-off, it is impossible, even redundant, to distinguish between a primary and a cross-claim. Both claims must fulfil the requirements for the extinction of obligations. As the ipso iuremechanism makes it clear, set-off is not understood as a privilege of the debtor (= cross-claim creditor), but rather as a legal automatism. The claims are extinguished, sometimes against the will of the parties. Extinction of the obligations is thus forced upon both parties. This can only take place if both claims are enforceable. e

Set-off Must Not Be Excluded by Law or by Agreement

Articles 1293 and 1298 of the Code Civil exclude set-off in certain situations.164 Where the creditor claims restitution of goods of which it has been unjustly deprived, the debtor may not undermine this restitution claim by setting off a cross-demand.165 Similarly, the claim for restitution of a deposit or of a loan for use is not subject to set-off.166 Whereas the first situation refers to statutory obligations to make restitution, the second addresses contractual restitutionary duties. Due to their narrow wording, both set-off prohibitions are of little practical relevance.167 Article 1293 No 3 Code Civil prohibits set-off in case ‘d’une dette qui a pour cause des aliments déclarés insaisissables’—that is, where unseizable/nonforfeitable alimonies are due. Case law has expanded this rule to all nonforfeitable claims.168 Finally, set-off may not take place to the detriment of the vested rights of third parties. Thus, a person who, being a debtor, has become a creditor after an attachment has been made in its hands by a third party may not raise set-off to the detriment of the attaching party.169 In practice, case law and literature have attenuated the strict prohibitions of set-off. The bailor in Article 1293 No 3 CC, for example, may waive its right to 161 Mendegris, Guide juridique Dalloz 1991 (above n111) para 6; Aubry, Rau and Bartin (above n112) paras 326, 342. 162 Carbonnier, Les obligations (above n11) para 337; Chabas, JCP 1996, I, 2026 (above n72) para 1149. 163 Below at 73−74, 85−86, 106. 164 For details see Baudry-Lacantinerie and Barde (above n6) para 1852 et seq. 165 Article 1293 No 1 CC. 166 Article 1293 No 2 CC. 167 Carbonnier, Les obligations (above n11) para 337. 168 Malaurie, Aynès and Stoffel-Munck (above n116) para 1189; Carbonnier, Les obligations (above n11) para 337; Terré, Simler and Lequette (above n7) para 1399. 169 Article 1298 CC.

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rely on the set-off prohibition and may bring about a set-off (so-called compensation facultative).170 Its waiver is assumed when it asserts set-off. This is one more construction that shows the extent to which French law relies on an enunciation of set-off. This brief overview must suffice for our purposes. The provisions dealing with the obstacles to a set-off are covered by a thick layer of case law, and there are many subtle nuances that must be observed when examining whether the right of set-off is excluded.171 f The Role of Connectivity of Primary Claim and Cross-claim As a principle, the primary claim and the cross-claim need not arise out of the same relationship or be connected to the latter.172 An exception to this principle is Article 70, second sentence of the Nouveau Code de Procédure Civile (NCPC). The provision grants the judge the right to reject an unconnected cross-claim where its adjudication may cause excessive delay of the whole case.173 The cross-claim must then be dealt with in another trial. Connectivity is thus an instrument of discretion. As its position in the Code of Civil Procedure suggests, in theory connectivity matters only in court proceedings. However, connectivity has played a role apart from Article 70 NCPC. It can sometimes ‘save’ a set-off where not all set-off requirements are fulfilled. Thus, case law has occasionally allowed a set-off where there would actually have been an obstacle to it (Articles 1293, 1298 Code Civil) or where the claims were not liquidated or not exigible, on the ground that the primary claim and the cross-claim were sufficiently connected as to justify a consideration of the set-off defence.174 Connectivity has also been referred to as a ‘condition-joker’ or a ‘supercompensation’ because it can compensate for the lack of one of the above-mentioned criteria.175 As legitimate as it may be that the

170 Flour, Jacques, Aubert, Jean-Luc, Flour, Yvonne and Savaux, Eric, Droit civil, Les obligations, Le rapport d’obligation, 6th edn (Paris: Dalloz, 2009) 338. 171 cf, eg, the references to case law in Terré, Simler and Lequette (above n7) para 1396 et seq. 172 Malaurie, Aynès and Stoffel-Munck (above n116) para 1190; Cass.com, 29 November 1988, Bull civ, IV, n° 325; D. 1989, som, 235, obs J-L Aubert: ‘C’est à bon droit que la cour d’appel a dit que la compensation s’était opérée de plein droit, même en l’absence de tout lien de connexité, dès lors qu’elle avait constaté que les dettes réciproques des parties étaient certaines, liquides et exigibles avant le prononcé du règlement judiciaire.’ 173 Article 70 NCPC: ‘The counterclaims or additional claims will only be available if they are attached to the original claims by a sufficient connection. However, the right of set-off is available even in the absence of such a connection, except when the judge disjoins it if it [the right] risks to excessively delay the judgment on the whole case.’ (‘Les demandes reconventionnelles ou additionnelles ne sont recevables que si elles se rattachent aux prétentions originaires par un lien suffisant. Toutefois, la demande en compensation est recevable même en l’absence d’un tel lien, sauf au juge à la disjoindre si elle risque de retarder à l’excès le jugement sur le tout. ‘) 174 See, eg, Civ, 3e, 30 March 1989, Bull civ, III, n° 77. For further case law cf Terré, Simler and Lequette (above n7) para 1403. 175 Terré, Simler and Lequette (above n7) para 1403.

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element of connectivity may cure the consequences of a lacking set-off requirement, this practice is not easy to navigate in the French law of set-off.

iii Effect of Legal Set-off Legal set-off operates to the effect that ‘the two debts are reciprocally extinguished, from the moment they co-exist, to the extent of their respective amounts’.176 The extinction of the debts entails the extinction of any accessory rights, such as guarantees or mortgages.177 Probably the most important consequence of the ipso iure-construction is that the duty to pay interest on a sum ceases to exist as soon as the claims were eligible for set-off.178 Furthermore, automatic extinction means that subsequent insolvency of one of the parties is irrelevant, since the claims have already been extinguished.179 The old dispute raised under the Corpus Iuris Civilis—about whether the plea of set-off constitutes an allegation of fact that the countervailing claims have been extinguished or whether it is the assertion of a right to set off180—has been resolved in the first-mentioned sense. Under French law of set-off, the defendant raises the exception that the countervailing claims have automatically been extinguished as of the date of their coexistence.

iv Summary This brief survey shows that French legal set-off is, to a large extent, a heritage of Roman law. The operation of set-off and the requirements of reciprocity and liquidity reflect the Justinianian tradition. The Roman footprint is also visible in the rules dealing with the effect of set-off, in particular the fact that the debtor is deemed not to have been in default since the date primary claim and cross-claim were eligible for set-off. Another Roman testimony is the fact that connectivity is not required. However, daily practice and layers of case law have brought significant alterations to the original concept. Case law has undermined the ipso iure operation by requiring a judicial assertion of set-off in judicial proceedings. This turns set-off into a mixed instrument. It is rooted in substantive law, but it requires a judicial act in order to make an impact. Furthermore, the element of connectivity of the claims, though not referred to in the Code Civil, has ‘crept’ into the law of set-off almost unnoticed. Today, connectivity of the claims may enable a compensation légale even if it would be impossible by the letter of the law. 176 Article 1290 CC. In French: ‘[l]es deux dettes s’éteignent réciproquement, à l’instant où elles se trouvent exister à la fois, jusqu’ à concurrence de leurs quotités respectives.’ 177 Baudry-Lacantinerie and Barde (above n6) para 1864; Terré, Simler and Lequette (above n7) para 1405; Mendegris, Guide juridique Dalloz 1991 (above n111) para 17. 178 Baudry-Lacantinerie and Barde (above n6) para 1864; Mendegris, Guide juridique Dalloz 1991 (above n111) para 16. 179 Bénabent, Les obligations (above n121) para 824; Terré, Simler and Lequette (above n7) para 1402. 180 Above at 31−33.

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The requirements of liquidity, reciprocity and similarity of the claims may not have undergone such drastic changes. What is noticeable in respect to those criteria, however, is the marked absence of case law and scholarly writing that would provide some guidelines as to their interpretation. The few cases and scholarly pieces available raise more questions than they answer. Case law has not been consistent, in particular not with regard to the application of the liquidity criterion. Recent literature, again, does not seem to have bothered too much about the details of set-off. The consequence of this is that French contemporary law of set-off is underexposed and its features blurred as soon as a case shows slightest signs of complexity.

C Set-off by Agreement (Compensation Conventionelle) The parties can at any time conclude a set-off agreement. The only boundaries to such agreement are the general limits applying to the principle of party autonomy. If a set-off agreement is concluded, the requirements of Article 1289 et seq. of the Code Civil need not be fulfilled.181 Parties can, for instance, agree to set off debts in three-sided arrangements, which could involve a set-off of claims that are not reciprocal.182 They can also provide for set-off of an unliquidated or unenforceable claim. Compensation conventionelle has the same effect as unilateral set-off. It brings about the extinction of the countervailing claims pro tanto. However, the claims are only extinguished as of the date of agreement and not as of the date the claims coexisted.183

D Judicial Set-off (Compensation Judiciaire) = Counterclaim Along with unilateral set-off settled in the Code Civil, French courts developed another, judicially operating form of setting off countervailing claims. This so-called compensation judiciaire initially consisted of case law, but it is now settled in Article 70 of the Nouveau Code de Procédure. Judicial set-off reminds us of the set-off concept of French pre-codified customary law, which operated as a procedural instrument.184 The differentiation provided by customary law between compensatio and counterclaim has been abandoned. Both former instruments have merged into the new mechanism of compensation judiciaire. Modern French law thus provides only for one procedurally operating form of setting off

181 Carbonnier, Les obligations (above n11) para 339; Terré, Simler and Lequette (above n7) para 1409; Malinvaud, Obligations (above n112) para 817; Mendegris, Guide juridique Dalloz 1991 (above n111) para 13. 182 See above at 12−13. 183 Carbonnier, Les obligations (above n11) para 339. 184 Above at 39−42.

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countervailing claims. The dividing line now runs between set-off as it is settled in the Code Civil and compensation judiciaire rooted in procedural law.185 Compensation judiciaire is subsidiary to set-off governed by the rules of the Code Civil.186 It will only be available where the requirements for a legal set-off are not met, for example because the obligations are not similar or not liquidated.187 We derive from this that, in contrast to legal set-off, similarity of obligations and liquidity are not required for judicial set-off.188 However, judicial compensation will usually call for a sufficient relation (‘un lien suffisant’) between primary claim and cross-claim.189 Traditionally, ‘connectivity’ would require that the two claims originate from the same action. This meant, in principle, that they had to arise out of the same contract. Recent case law has broadened the notion of connectivity. The latter is deemed to exist also between claims originating from a ‘contractual ensemble’, which may include different contracts.190 The Cour de Cassation has gone even further. By holding that, even if primary claim and cross-claim were not sufficiently connected, the judge was free as to whether or not it took the compensation judiciaire defence into consideration, the Cour has, in effect, abandoned the requirement of connected claims.191 The effect of a judicial set-off is not absolutely clear. A large part of the literature holds that the claims cease to exist as of the time of the judicial verdict:192 ‘la compensation reconventionelle est l’oeuvre du juge’.193 This position has also found favour in case law.194 Others favour the view that the claims are extinguished at the time the cross-claim is instituted before the court,195

185 Contractual set-off and insolvency set-off are not counted here; the first is an outflow of party autonomy; the second relates to the specific situation of set-off in insolvency and is thus subject to a series of special rules, see above at 14. 186 Italian law has also adopted the differentiation between compensazione legale and compensazione giudiziale. Unlike French law, both versions are dealt with in the Civil Code. As in France, set-off by law is far more important than judicial set-off, see Schlesinger, Piero, ‘Compensazione. Diritto civile’ in Antonio Azara and Ernesto Eula (eds) Novissimo Digesto Italiano, 3rd edn (Torino: Unione Tipografico Editrice Torinese, 1957) 722; Cantillo, Michele, Le obbligazioni, Vol II (Torino: Unione Tipografico-Editrice, 1992) 951. 187 Cass, 1re civ, 30 June 1993, Bull civ I, n° 235; Baudry-Lacantinerie and Barde, tome III (above n6) para 1888 (227); Aubry, Rau and Bartin (above n112) para 325 (p 338). 188 Above at 47−50, 51−52. 189 Article 70(1) NCPC: ‘Les demandes reconventionnelles ou additionnelles ne sont recevables que si elles se rattachent aux prétentions originaires par un lien suffisant.’ See also Bénabent, Les obligations (above n121) para 827; Terré, Simler and Lequette (above n7) para 1410; Malinvaud, Obligations (above n112) para 817. 190 Cass.com, 9 May 1995, JCP 1995.II.22448, note Rémery, D 1996, 322, note G Loiseau. As to the limits to the rule see Bénabent, Les obligations (above n121) para 827. 191 Cass, 1re civ, 30 June 1993, Bull civ I, n° 235; Malinvaud, Obligations (above n112) para 817. 192 This position is held, eg, by Terré, Simler and Lequette (above n7) para 1410 in fine; Baudry-Lacantinerie and Barde, tome III (above n6) para 1895 (p 232); Malaurie, Aynès and Stoffel-Munck (above n116) para 1194; Mendegris, Guide juridique Dalloz 1991 (above n111) para 14. 193 Baudry-Lacantinerie and Barde, tome III (above n6) para 1895 (p 232). 194 See the references in Chabas, JCP 1966, I, 2026 (above n72) para II B. 195 See Aubry, Rau and Bartin, tome IV (above n112) paras 328, 355.

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whereas still others hold that the countervailing claims are extinguished as of the time they were eligible for set-off, like under the Code Civil.196 On the whole, the compensation judiciaire compensates for some of the shortcomings of the Code Civil’s set-off. However, there remains a series of uncertainties. In particular, no clear-cut answers may be given regarding the exact meaning of ‘lien suffisant’, and the same holds true for the question of the effect of a judicial set-off. This may be the reason why, in general, it has remained an instrument of little practical importance.

E Set-off in the Avant-Projet Catala In 2005, a preliminary draft on a completely revised Code Civil was published by an unofficial group of university professors, the so-called avant-projet Catala.197 The project proposes a new structure of the provisions on set-off, taking into account the modifications of the set-off provisions that have been brought about by case law.198 First and foremost, the avant-projet does away with the ipso iure operation of set-off by stating that, in order for a set-off to take place, it must be asserted by one of the parties.199 The effect of set-off is retroactive, that is, the primary claim and the cross-claim are extinguished as of the time they were eligible for set-off.200 Furthermore, the avant-projet expressly states that, where the claims are connected to each other, set-off must be permitted even if the claims are neither enforceable nor asserted as to their amount or existence.201 According to the drafters of the avant-projet, contractual set-off (compensation conventionelle) and judicial set-off (compensation judicaire) should also be explicitly settled in the Code Civil. It is further clarified that contractual set-off takes effect as of the date of the set-off agreement.202 With regard to compensation judicaire, the avant-projet expressly states that its function is to enable set-off even 196 See, however, Mazeaud, Jean, Mazeaud, Léon, Mazeaud, Henri (readapted by Chabas, François), Leçons de droit civil, Tome II, 9th edn (Paris: Montchrestien, 1998) para 1151, who deem judicial set-off to operate retroactively. 197 Avant-projet de réforme du droit des obligations (Articles 1101 à 1386 du Code civil) et du droit de la prescription (Articles 2234 à 2281 du Code civil), Rapport à Monsieur Pascal Clément, Garde des Sceaux, Ministre de la Justice, 22 septembre 2005, published on (last accessed on 6 October 2010). 198 Avant-projet, Exposé des motifs, 56 (‘les diverses modalités développées par la jurisprudence sur la base des dispositions insuffisantes du Code civil ont été introduites avec leur régime juridique propre’). 199 Article 1243(1) of the avant-projet (‘Le moyen de la compensation légale doit être invoqué par le débiteur poursuivi’). 200 Article 1243(2) (‘En ce cas, les dettes se trouvent éteintes à concurrence de leurs quotités respectives, à l’instant où elles ont coexisté avec les qualités requises’). 201 Article 1248 (‘Lorsque deux dettes sont connexes, le juge ne peut écarter la demande en compensation au motif que l’une d’entre elles ne reunite pas les conditions de liquidité et d’exigibilité’). 202 Article 1247 (‘Les parties peuvent convenir d’éteindre leurs dettes réciproques. Cette compensation n’opère qu’à la date de leur accord’).

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if not all of the requirements of ‘normal’ set-off (compensation légale) are met but the matter can nonetheless be adjudicated. If a judicial set-off is successful, the claims are extinguished as of the date the defence of judicial set-off was raised.203 All in all, the avant-projet makes no changes to the present law of set-off in France. In particular, it maintains the dual system of a substantively and a procedurally operating set-off. The merit of the project with regard to set-off is that it imposes a written form on rules that have been developed by courts and reproduces the law of set-off as it is currently applied.

F Set-off in Other Romanic Legal Systems i Overview Many legal systems influenced by the French Code Civil have adopted a similar concept of legal set-off, the most salient features of which are the ipso iuremechanism and the requirement of both debts being liquidated. Among these jurisdictions are Belgium, Luxembourg, Portugal, Spain, Italy, Argentina, Brazil, Chile, Colombia, Kuwait, Louisiana, Mexico, Panama, Quebec, the Philippines, and Venezuela.204

ii Automatic Extinction of Concurring Debts The ipso iure-structure is embodied in Article 1290 of the Belgian and Luxembourgian Code Civil which, with regard to set-off, follow the French Code Civil almost to the letter.205 A provision virtually identical to Article 1290 of those

203 Article 1246 (‘La compensation peut être opposée en justice par la partie dont la créance n’est pas encore liquide et exigible, à la condition, dans ce dernier cas, que le juge puisse prononcer la déchéance du terme. La compensation produit ses effets à la date de l’introduction de la demande reconventionelle’). 204 See Baudry-Lacantinerie and Barde (above n6) para 1805. 205 The only exception is art 1295 of the Belgian Code Civil, which differs slightly from its French and Luxembourgian counterparts. Whereas art 1295 of the Belgian Code Civil prevents a debtor’s set-off against rights that have been assigned to a third party where the debtor accepted this assignment or has been notified thereof, the French provision is more supportive of the debtor’s position: notification of assignment prevents only set-off of claims that accrue subsequent to that notification, but not set-off of claims that existed prior to notification. See art 1295 of the French Code Civil: ‘(1) Le débiteur qui a accepté purement et simplement la cession qu’un créancier a faite de ses droits à un tiers, ne peut plus opposer au cessionnaire la compensation qu’il eût pu, avant l’acceptation, opposer au cédant. (2) A l’égard de la cession qui n’a point été acceptée par le débiteur, mais qui lui a été signifiée, elle n’empêche que la compensation des créances postérieures à cette notification’, as opposed to art 1295 of the Belgian Code Civil (L 1994–07–06/32, art 6, 002; in force since 25 July 1994): ‘Lorsque la cession a été notifiée au débiteur ou qu’elle a été reconnue par le débiteur, celui-ci ne peut plus invoquer la compensation des créances qui se réalise postérieurement’. The practical significance of art 1295 of the Belgian Code Civil, however, has been reduced by art 14 of the Financial Collateral Act of 2004, according to which netting arrangements can be enforced against third parties, irrespective of the assignment of claims to which they relate. By disapplying art 1295 Code Civil in contractual set-off arrangements, a debtor can claim the benefit against assignees of

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Codes is Article 1.202 of the Spanish Código Civil.206 The principle of automatic extinction of countervailing debts is further common to, for example, the Civil Codes of Argentina,207 Panama,208 and Kuwait.209 In Italy, opinions are divided. The wording of the Codice Civile does not lend itself to an unequivocal interpretation: Article 1242(1) states that ‘[s]et-off extinguishes both claims from the day of their coexistence. The court must not consider set-off ex officio.’ The last sentence of Article 1242(1) makes it clear that the right of set-off must be asserted by one of the parties.210 Thus, if some authors still refer to an ‘operation by law’,211 all they mean is that an assertion of set-off is merely declaratory and that the obligations have already extinguished as at the date they were eligible for set-off. However, they do not maintain the position originally held under the French Code Civil that the ipso iure-operation of set-off is binding upon the court without any of the parties asserting set-off.212 Despite the clear wording in Article 1242(1) Codice Civile, which expressly provides for a retroactive effect of set-off, there is a dispute among Italian scholars as to whether the assertion is merely declaratory and set-off has occurred already at the moment the claims were eligible for set-off213 or whether the set-off declaration is of a constitutive nature. The latter has been proposed by more recent literature,214 although the pendulum has swung back in the last decade

previously agreed set-off arrangements with assignors, see Vermylen in Johnston, William and Werlen, Thomas (eds), Set-off Law and Practice, An International Handbook (Oxford: University Press, 2006) para 4.18. 206 Article 1.202 Código Civil: ‘Set-off extinguishes both debts to the extent to which they concur, even if the creditors and debtors have no knowledge of it.’ In the Spanish original: ‘El efecto de la compensación es extinguir una y otra deuda en la cantidad concurrente, aunque no tengan conocimiento de ella los acreedores y deudores.’ (Emphasis added.) 207 Article 852 Civil Code: The compensation of obligations takes place when two persons in their own right combine reciprocally the condition of creditor and debtor, whatever be the causes of either debt. It extinguishes both debts with the force of payment, to the extent of the amount of the smaller debt, from the time both began to co-exist.’ (Emphasis added) 208 Article 1080 Civil Code: ‘The right of set-off shall arise, by operation of the law, when two persons are, reciprocally, debtor and creditor of each other.’ (Emphasis added) 209 Article 428.2 Civil Code: ‘Set-off shall result in the reduction of the two debts in the amount of the lesser debt from the time they become available for set-off.’ (Emphasis added) 210 See also Merlin, Elena, Compensazione e processo, Vols I and II (Milan: Dott A Giuffrè Editore, 1991 and 1994), 32. 211 See, eg, Elia in Neate, Francis (ed) Using Set-off as Security, A Comparative Survey for Practitioners, (London: Dordrecht etc: Graham & Trotman, 1990) 222, 223. 212 Above at 45−47. 213 This is the position mostly taken in older literature, see Pellegrini, Francesco, in Commentario al Codice Civile, Libro delle obbligazioni (Florence: Società editrice Fiorentina, 1948), 146; Redenti, Enrico, ‘La compensazione dei debiti nei nuovi codici’, Rivista Trimestrale di Diritto e Procedura Civile (1947) 10, 16 et seq. 214 The view maintained by more recent authors is that, without declaration, the claims have not been set off. There is solely eligibility for set-off, without set-off having actually taken place. See Cian, Giorgio and Trabucchi, Alberto, Commentario breve al codice civile, 9th edn (Padua: CEDAM, 2009)

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and recent commentators are following the classic view that set-off occurs ope legis at the time of eligibility of the countervailing claims.215 There is another point of contention, namely whether Italian set-off, as settled in the Codice Civile, calls for a declaration of set-off in court or whether informal, extra-judicial declaration suffices. It seems that there is a slight majority in literature which is satisfied with the latter,216 but opinions are divided.

iii Ascertainment of Claims Like in the French Code Civil, many French-based jurisdictions require the liquidity of both reciprocal claims. This is, for instance, reflected in Article 1.196 No 4 of the Spanish Código Civil.217 Some French-based jurisdictions, however, have chosen a more set-off friendly wording than Article 1291(1) of the French Code Civil. They provide that an unliquidated cross-claim will not hinder a set-off if it can easily be liquidated.218 Article 1902 of the Louisiana Code Civil, for example, provides: ‘Although the obligation claimed in compensation is unliquidated, the court can declare compensation as to that part of the obligation that is susceptible of prompt and easy liquidation.’ The Italian Codice Civile reads in a similar vein.219

G Summary From an overall perspective, the present law of set-off in France appears as an amalgam influenced by Roman, customary and canon law. This is shown in a number of aspects. First and foremost, it can be observed that there are two possibilities of opposing the primary claim. Modern French law followed in Article 1242 n2; Cendon, Paolo, Commentario al Codice civile, art. 1173–1320, Obbligazioni (Milan: Guiffré, 2009) 1393–1395, 1398. See also Schlesinger, Compensazione (above n186) 724 et seq, with further references. 215 Commentators of the last decade have followed the classic view that set-off occurs ope legis at the time of eligibility of the countervailing claims (Trabucchi, 564 (1997); Merlin, Compensazione I (above n210) 408 et seq. For a detailed analysis of the discussion in Italy cf Kannengießer, Aufrechnung (above n71) 25 et seq). This position is firmly settled in case law, Cass civ sez I, 4 May 1981, para 2705, Foro it Mass 1981; Cass, 5 June 1976, para 2037, Giust Civ 1976, I, 1638; Cass, 23 October 1958, para 3420, Foro it 1959, I, 599; Cass, 4 July 1956, para 2431, Giust Civ 1957, I, 91; Cass, 21 May 1979, para 2916, Giur it. Mass, 1979; Cass, 28 October 1969, para 3551, Giur it Mass, 1969. 216 Schlesinger, Compensazione (above n186) 724; Dalbosco, Maria Cristina, ‘La compensazione per atto unilaterale (la cd compensazione legale) tra diritto sostanziale e processo’ Rivista di Diritto Civile (1989) I 357 et seq; contra Redenti, Riv trim dir proc civ (above n213) 17 et seq. 217 Article 1.196 Código Civil: ‘Para que proceda la compensación, es preciso: […] 4º. Que sean líquidas y exigibles.’ (Emphasis added). 218 They have thus opted for a version similar to that proposed by Maleville in the Conseil d’Etat, which could not gain favour with the other drafters of the French Code Civil, see above at para 119. 219 Article 1243(2) Codice Civile: ‘If the debt claimed in compensation is not liquidated but is susceptible of easy and prompt liquidation, the judge may declare compensation as to that part of the debt whose existence he recognises. He may also suspend judgment with respect to the liquidated debt until the debt claimed in compensation is ascertained.’ For details see Kannengießer, Aufrechnung (above n71) 13 et seq.

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pre-codified law’s footsteps and provided for two different possibilities of setting off countervailing claims: ‘set-off by law’, which is settled in the Code Civil and has the odd character of being a substantive instrument which must be exercised judicially, and ‘judicial set-off ’ (compensation judiciaire), which is the successor of pre-codified counterclaims as seen in customary and canon law, respectively. With a view to ‘set-off by law’, the ipso iure-concept reflected in Article 1290 of the French Code Civil has not been preserved in its entirety. This becomes apparent when reading some of the Code Civil provisions. Most importantly, however, the ipso iure-model has been sidelined by the courts’ daily application. Contrary to the wording of Article 1290 Code Civil, set-off will not take place on its own but must be asserted in court by one of the parties. With this requirement of procedural objection, set-off has, in fact, been turned into a judicially operating set-off. This holds true not only for French law, but also for most Frenchbased jurisdictions depicted above.220 Of further note is the ancient Roman criterion of ‘liquidity’ which has been adopted by the French and French-based codifications and has been turned into a substantive requirement. Accordingly, set-off will only take place where the sums at issue are determined, and not seriously disputed by the other party. However, if a debt is unliquidated, it can still be brought as a compensation judiciaire. Compensation judiciaire works in court proceedings only. Although the claims need not be liquidated, a sufficient connection between claim and cross-claim must exist. The close relation of claim and cross-claim in judicial set-off may sometimes replace the requirement of liquidity in substantive set-off.221 As to the latter, lacking connectivity may be a reason for rejecting to hear the cross-claim. Connectivity is, thus, not an actual requirement, but its absence opens discretion to the court whether it deals with the set-off defence or not.

III Set-off in the Germanic Legal Systems The Germanic ‘legal family’ includes the German, Swiss, and Austrian legal systems as well as non-German speaking jurisdictions that have strongly been influenced by either of those three, such as Japan, Greece, Korea, Thailand, and Turkey.222 All those laws share a similar view of set-off, with the exception of Austria, which, theoretically at least, steps out of line and joins the French school of thought with its ipso iure-perception. However, as will be seen,223 the Austrian exception bears no relevance in daily practice, which justifies the portrayal of Austrian law of set-off together with the other Germanic laws. 220 See the respective country reports in Johnston and Werlen (eds), Handbook; cf also PECL, Comment, note 1 to Article 13:104 PECL, 149. 221 See also Malaurie, Aynès and Stoffel-Munck (above n116) para 1193. 222 Zweigert, Konrad and Kötz, Hein, An Introduction to Comparative Law, 3rd edn (Oxford: Oxford University Press & Tübingen: Mohr Siebeck, 1998) 146 et seq, 175 et seq. 223 Below at 91−92.

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The analysis will start with a historical survey (section A), followed by an overview of German (section B) and Swiss law of set-off (section C) and a brief summary on those two laws (section D). Austria will be dealt with separately (section E). Other selected German-influenced jurisdictions will be referred to separately (section F). The chapter will also address set-off agreements (section G) and counterclaims (section H), then close with a brief summary (section I).

A Historical Development The beginnings are similar to ancient Roman and medieval French law.224 Old Germanic legal proceedings with their formalistic structures were tightly linked to certain words and rituals and consequently not in a position to deal with two countervailing claims at a time. The Sachsenspiegel, one of the oldest225 and most important legal books of medieval ages,226 bears testimony to this. It ordered: If somebody raises a claim against another and the latter raises a claim against the former, the first party need not deal with the other’s claim before the first claim has been settled.227

The defendant had to fully do justice to the claimant before asserting a right of its own. In the sixteenth century, with Roman law influence becoming stronger228 and trade and commerce increasing,229 the Roman notion of set-off in its 224

See above at 23 et seq, 37 et seq. The only older legal book is the Thuringian Mühlhäuser Reichsrechtsbuch, which was recorded around 1220 and contained mostly court rules, see Richter, Klaus, ‘Rechtsbücher: Sachsenspiegel und Schwabenspiegel’ in Wolff, Jörg (ed), Kultur- und rechtshistorische Wurzeln Europas, (Mönchengladbach: Forum Verlag Godesberg, 2005) 119. 226 The Sachsenspiegel is a record of customary law and judicial practice in Saxony—done privately by Eike von Repgow. The Sachsenspiegel was written between about 1224 and 1235 (the year it began varies; according to some authors it was in 1220 (Wesel, Uwe, Geschichte des Rechts. Von den Frühformen bis zur Gegenwart, 3rd edn (Munich: Verlag CH Beck, 2006) para 220; Kannowski, Bernd, ‘Der Sachsenspiegel im Kontext europäischer Rechtsgeschichte. ‘Teutsche’ und überregionale Aspekte anhand von Bilderhandschriften und Glossen’ in Wolff, Jörg (ed), Kultur- und rechtshistorische Wurzeln Europas (Mönchengladbach: Forum Verlag Godesberg, 2005) 139), according to others in 1221 (Drescher, Ulrich, Geistliche Denkformen in den Bilderhandschriften des Sachsenspiegels, (Frankfurt am Main etc: Peter Lang, 1989) 20) or 1225 (Richter, Rechtsbücher (above n225) 119)). It was translated into almost all German dialects and numerous other languages and was adopted in vast parts of Western, Central, and Eastern Europe, cf Laufs, Adolf, Rechtsentwicklungen in Deutschland, 6th edn (Berlin and New York: de Gruyter Recht, 2006) 11 et seq; Richter, Rechtsbücher (above n225) 119, 132; Riedl, Eckhard, Die Bilderhandschriften des Sachsenspiegels und das Bürgerliche Gesetzbuch (Oldenburg: Isensee-Verlag, 1998) 11; Kannowski, Sachsenspiegel (above n226) 139, 143 et seq. Remarkably, the Sachsenspiegel remained in existence for a long time, in some parts until the enactment of the pan-German Civil Code (the Bürgerliches Gesetzbuch (BGB)), in 1900, cf Richter, Rechtsbücher (above n225) 119, 132; Laufs, Rechtsentwicklungen (above n226) 16; Riedl, Bilderhandschriften (above n226) 13. 227 Landrecht, Third Book, art 12 para 1 Sachsenspiegel (cited from the Heidelberger Bilderhandschrift): ‘Swer uffe den anderen claget vn ein wider uf in, d alrest claget, d en hat ieme nicht czu antwertene, he ne si von im alrest ledic’. 228 As to the intake of Roman law into German customary law see Wieacker, Franz, Privatrechtsgeschichte der Neuzeit, 2nd edn (Göttingen: Vandenhoeck & Ruprecht, 1967) 97 et seq; Laufs, 225

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post-classical version gained ground. By the end of the sixteenth century, the German and Austrian law of set-off had to a large extent adopted the compensatio of the Corpus Iuris Civilis, and there was eager scholarly occupation with the various methods of interpreting the passages relevant for understanding the operation of set-off, especially the phrase ‘ipso iure compensatur’.230 Roman law scholars gave a different meaning to the ipso iure-wording in the Corpus Iuris Civilis at different times.231 The modern continental European codifications, which, in one way or another, may all be traced back to the Corpus Iuris Civilis,232 have each adopted that school of thought which prevailed at the time they were drafted. The view dominating into the early nineteenth century was that set-off occurred automatically as of the time the two debts coexisted. This is reflected not only in the French Code Civil, but also in the codifications of the German-speaking parts of Europe that entered into force in the late eigthteenth and early nineteenth century. The Prussian codification of 1794 (Allgemeines Landrecht für die preussischen Staaten—ALR) and the Austrian codification of 1811 (Allgemeines Bürgerliches Gesetzbuch—ABGB) are two prominent examples which adopted the idea of an automatic extinction of countervailing debts.233 In the nineteenth century, the theory that set-off must be declared by one of the parties gained ground.234 There existed various ideas as to the effect of such declaration of set-off. The prevailing view in literature was that, once set-off was declared, it had retroactive effect. The debts were held to have been extinguished as of the time demand and cross-demand first faced each other.235 The main practical consequences of this theory were that neither party was deemed to have been in default (Schuldnerverzug) which implied three things. First, if the two debts were debts for money, the duty to pay interest on either of them ceased to exist from the time the debts concurred. Second, the party who had paid its debt unaware of the fact that it could have set off its own right was entitled to Rechtsentwicklungen (above fn 226) 64 et seq; Sellert, Wolfgang, ‘Rechtsbildung in Deutschland im Zeitalter der Rezeption’ in Wolff, Jörg (ed) Kultur- und rechtshistorische Wurzeln Europas (Mönchengladbach: Forum Verlag Godesberg, 2005) 181, 186 et seq; Schlosser, Hans, ‘Vom Rechtskundigen zum Gelehrten Juristen: Die Professionalisierung des Juristenstands in Deutschland im Mittelalter’ in Wolff, Jörg (ed) Kultur- und rechtshistorische Wurzeln Europas (Mönchengladbach: Forum Verlag Godesberg, 2005) 103, 108 et seq. 229 See Wesel, Geschichte (above n226) para 241. 230

Dullinger, Silvia, Handbuch der Aufrechnung (Vienna, New York: Springer Verlag, 1995) 150. See above at 31−33. 232 Above at fn 45. 233 As to the ABGB see below at 90 et seq. 234 Dernburg, Kompensation (above n9) 302: ‘It appears to be of scientific importance to part with that heirloom of medieval scholastic and dialectic and to relinquish the iridescent “ipso iure” […] [which is] incompatible with modern juridical logic.’ (‘Es erscheint uns wissenschaftlich von Wichtigkeit, mit jenem Erbstück mittelalterlicher Scholastik und Dialektik zu brechen, und das schillernde ipso jure […] als eine mit dem jetzigen Standpunkt juristischer Logik nicht verträgliche Auskunft aufzugeben.’). 235 Windscheid, Bernhard and Kipp, Theodor, Lehrbuch des Pandektenrechts, Vols I and II, 9th edn (Aalen: Scientia Verlag, 1984) (reprint of the Frankfurt aM edition of 1906) 464 et seq; Dernburg, Kompensation (above n9) 281 et seq. 231

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repayment based on a condictio indebiti. Third, any penalty clauses that the parties may have provided in case of default were deemed as not having fallen due.236 Others rejected a general retroactive effect of a set-off declaration. They based their view on the bare wording of the Corpus Iuris Civilis, which did not speak of a general retroactive effect of set-off. Rather, the Corpus limited retroaction to (a) interest, which accrued only to the date the two debts coexisted, and (b) to the possibility to claim back payments made in ignorance of the fact that a set-off would have been possible.237 However, the dispute should not be overerstimated. Both a general retroactive effect of set-off, and the view that a set-off ’s retroaction is limited to interest and to the possibility of claiming back payments under condictio indebiti, lead to the same practical consequences. The only discord concerns the penalty clauses, which the more narrow position does not encompass. There was actually only one practically significant question which was disputed between the two schools of thought, namely whether time-barred claims are capable of being set off. The proponents of a general retroactive effect held that prescription of a cross-claim was no impediment to set-off if the cross-claim had not been time-barred at the time the countervailing claims first countered each other.238 For the other school of thought, the retroactive effect of set-off was limited to cessation of interest and the possibility of a condictio-indebiti-claim.239 The question of whether prescription of claims prevented set-off, however, is not in fact a question of retroactivity. It relates to the effect of a set-off only, whereas the requirements for a set-off are to be assessed at the time the right of set-off is exercised. We will come back to this.240

B Set-off in the German Codification Operation of set-off under German Law will be discussed first (section i), followed by an overview of its requirements (section ii) and its effects (section iii).

236 Eisele, Compensation (above n49) 228 et seq, 259 et seq; see also Dullinger, Aufrechnung (above n230) 158. 237 See the references to the Roman sources in Dernburg, Kompensation (above n9) 584 et seq.; Eisele, Compensation (above n49) 259 et seq. 238 Dernburg, Kompensation (above n9) 473 et seq. 239 Windscheid, Bernhard and Kipp, Theodor (above n235) 463 fn 2, 484 fn 2; Eisele, Compensation (above n49) 333. 240 Below at 78−79.

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i Operation by Extra-judicial Declaration a

Principal Rule

According to prevailing opinion of the time, the German civil law codification of 1900 took the position that set-off requires a declaration by one of the parties.241 Pursuant to para 388(1) BGB, set-off occurs through declaration to the other party. The declaration of set-off need not be raised in judicial proceedings. An informal, unilateral declaration made by one party to the other suffices. Set-off in German law is, thus, a self-help instrument. This becomes particularly clear when considering that the set-off declaration need not be explicit. The debtor can set off implicitly, by deducting its cross-claim from the creditor’s primary claim and just paying the difference. However, it must be evident from the circumstances that the debtor wishes to set off.242 Furthermore, both claims must be sufficiently determined.243 This solution differs from the ancient Roman concept, where an exceptio compensationis had to be pleaded in court.244 It also deviates from the French model: by avoiding the complicated interplay of the theoretical ‘ipso iure’-mechanism and the factual requirement of judicial assertion inherent in French law, the exercise of the right of set-off is noticeably simplified. b

Set-off Declaration in Court (Prozessaufrechnung)

Set-off Brought in Court as an Allegation of Fact In France, the dispute under Justinian as to whether the plea of set-off was the allegation of a fact or the assertion of a right245 was resolved in favour of the former.246 In Germany, the situation is more complex. As a principle, set-off operates extra-judicially. Therefore, if the matter is subsequently referred to court, the plea of set-off in court is the allegation of a fact, namely that set-off has been effectively declared.247 It is not the right of set-off as such which is exercised in court; set-off is purported to have taken place earlier. It is just the fact that set-off has occurred which is brought in. This is also the reason why set-off can

241

Paragraph 388(1) BGB: ‘Die Aufrechnung erfolgt durch Erklärung gegenüber dem anderen

Teil’. 242 This is generally acknowledged. See, eg, Gernhuber, Joachim, Die Erfüllung und ihre Surrogate, 2nd edn (Tübingen: JCB Mohr, 1994) 301; decision of the Federal Constitutional Court, 26 February 1993, NJW-RR (1993) 764, 765. 243 cf, eg, decision of the OLG Köln, 10 November 2004, NJW (2005) 1127, 1128. 244 See above at 28−29. 245 See above at 31−33. 246 See above at 45−47. 247 Dennhardt in Bamberger, Heinz Georg and Roth, Herbert (eds), Beck’scher Online-Kommentar, 18th edn (as at 1 August 2010) para 388 BGB para 5; Enneccerus and Lehmann (above n50) para 69 III 1 (278).

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be invoked as an exception also by third parties.248 If set-off is brought in as the assertion of a fact, the judgment has mere declaratory effect. It confirms only that set-off has been brought about. Bringing set-off in court as a fact is a procedural act. Therefore, procedural rules must be observed. This is certainly obvious for rules concerning the course and structure of the judicial procedure.249 Procedural rules are to be complied with if, for example, they impose time limits, or technicalities regarding the supply of evidence. However, as will be shown, procedural rules can also impose new requirements for set-off, such as the prerequisite that the primary claim and the cross-claim arise out of the same relationship, or that the amount of the cross-claim may not exceed the amount of the primary claim.250 The lastmentioned requirements are not technical procedural rules. They substantially affect the right of set-off by imposing stricter requirements than provided for by the substantive law. Set-off Brought in Court as an Assertion of a Right However, it is still possible that a party refrains from declaring set-off until it comes to the judicial proceedings. The nature of a set-off declared in court or arbitration proceedings for the first time is disputed. According to the so-called ‘civilian theory’ (zivilistische Theorie), set-off is governed by the provisions of the BGB, whether declared in or outside court proceedings.251 Set-off is always seen as a substantive instrument, the character of which does not change when asserted in court.252 Pursuant to the ‘procedural theory’ (prozessualistische Theorie), a sharp distinction is drawn between extra-judicial declaration of set-off and its assertion in court.253 The latter is treated as a procedural demand to issue a

248 Schreiber, Klaus, ‘Prozessvoraussetzungen bei der Aufrechnung’ 90 Zeitschrift für Zivilprozeß (1977) 395, 396; Wöstmann in Saenger, Ingo (ed), Zivilprozessordnung, Handkommentar, 3rd edn (Baden-Baden: Nomos, 2009) para 145 para 11. 249 Gernhuber, Erfüllung (above n242) 283 et seq.; Smid in Wieczorek, Bernhard and Schütze, Rolf A (eds), Zivilprozessordnung und Nebengesetze. Grosskommentar, 3rd edn (Berlin: de Gruyter Recht, 2007) para 145 ZPO para 29; Greger in Zöller, Richard (ed), Zöller Zivilprozessordnung, 28th edn (Cologne: Verlag Dr Otto Schmidt, 2009) para 145 ZPO para 11; Hartmann in Baumbach, Adolf, Lauterbach, Wolfgang, Albers, Jan and Hartmann, Peter, Beck’sche Kurzkommentare Band 1, Zivilprozessordnung, 68th edn (Munich: CH Beck, 2010) para 145 ZPO para 10; Wöstmann in Saenger (ed), Handkommentar ZPO (above n248) para 145 para 9. 250 Below at 75−78. 251 This theory is upheld, eg, by Gernhuber, Erfüllung (above n242) 312 et seq; Baumgärtel, Gottfried, Wesen und Begriff der Prozeßhandlung einer Partei im Zivilprozeß (Berlin, Frankfurt am Main: Verlag Franz Vahlen, 1957) 161 et seq; Leipold in Stein, Friedrich and Jonas, Martin (eds), Kommentar zur Zivilprozessordnung, 22nd edn (Tübingen: Mohr Siebeck, 2002) para 145 ZPO para 28; Grunsky, Wolfgang, ‘Die unzulässige Prozeßaufrechnung’ Juristenzeitung (1965) 391, 394; Westermann, Harm Peter (ed), Erman Bürgerliches Gesetzbuch, Handkommentar, Vol I, 12th edn (Cologne: Verlag Dr Otto Schmidt, 2008) para 398 BGB para 4. 252 Gernhuber, Erfüllung (above n242) 312. 253 Nikisch, Arthur, ‘Die Aufrechnung im Prozess’ in Das deutsche Jahrhundert in der Mitte des 20. Jahrhunderts, Festschrift für Heinrich Lehmann zum 80. Geburtstag (Berlin: Walter de Gruyter et al,

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judgment (Gestaltungsurteil).254 It triggers jurisdictional questions on a domestic level similar to those raised in international cases, in particular the question of whether a court that would not be competent to hear the cross-claim is competent to adjudicate the set-off defence.255 The two antipodes, that is, the civilian and the procedural theory, have sometimes been combined, holding that a set-off declaration in court is of a dual nature, namely both substantive and procedural.256 Alternatively, both theories have been rejected and a set-off declaration in court has been regarded as an ‘undeveloped counterclaim’,257 which turns it into a completely procedural instrument. The combination theory, according to which there is a substantive and a procedural side to judicially declared set-off, prevails in Germany today.258 Pursuant to that theory, a set-off declaration has, on the one hand, to comply with all requirements of procedural law as long as those refer to technical aspects such as time flow and schedule.259 Therefore, a juridical set-off declaration must be timely, sufficiently substantiated, etc. The procedural side ends with those ‘conducting functions’ (prozessleitende Funktionen).260 If the set-off objection is dismissed for procedural reasons (for example, procedural prerequisites are not fulfilled), this has no actual consequences for the question of whether the (substantive) set-off requirements are met. There is, however, disagreement as to

1956) 765; Enneccerus and Lehmann (above n50) para 69 III 1 (279); Habscheid, Walther J, ‘Über die Rechtsfolgen der fehlgeschlagenen Prozeßaufrechnung’ 76 Zeitschrift für Zivilprozeß (1963) 371. 254

ibid. cf Smid in Wieczorek, Bernhard and Schütze, Rolf A (eds), Zivilprozessordnung und Nebengesetze Grosskommentar, 3rd edn (Berlin: de Gruyter Recht, 2007) para 145 ZPO para 30 et seq; Wagner in Münchener Kommentar Vol I, 3rd edn (Munich: CH Beck, 2008), para 145 ZPO para 31 et seq; Schreiber, 90 ZZP (1977) (above n248) 395, 398 et seq. 256 See, eg, Decision of the BGH, 20 December 1956, BGHZ 23, 17, 23; Dennhardt in Bamberger, Heinz Georg and Roth, Herbert (eds) (above n247) para 388 BGB para 5. 257 Esser, Josef and Schmidt, Eike, Schuldrecht, Allgemeiner Teil: Entstehung, Inhalt und Beendigung von Schuldverhältnissen, Ein Lehrbuch, 8th edn (Heidelberg: CF Müller Verlag, 1995) para 18 III 4 a; see also Mittenzwei, Ingo, ‘Rechtshängigkeit der im Prozeß zur Aufrechnung gestellten Forderung?’ 85 Zeitschrift für Zivilprozeß (1972) 466; Schmidt, Eike, ‘Die Prozeßaufrechnung im Spannungsfeld von Widerklage und prozessualer Einrede’ 87 Zeitschrift für Zivilprozeß (1974) 29; Schreiber, 90 ZZP (1977) (above n248) 395. 258 Decision of the BGH, 20 December 1956, BGHZ 23, 17, 23; Stadler in Museliak, Hans-Joachim (ed), Kommentar zur Zivilprozessordnung mit Gerichtsverfassungsgesetz, 7th edn (Munich: Verlag Franz Vahlen, 2009) para 145 ZPO para 14; Gursky in Staudinger, J von (ed), Kommentar zum Bürgerlichen Gesetzbuch mit Einführungsgesetz und Nebengesetzen, (Berlin: Sellier-de Gruyter, 2006) Vorbem zu para 387 ff BGB para 26; Grüneberg in Palandt, Bürgerliches Gesetzbuch, 69th edn (Munich, CH Beck, 2010), para 388 BGB para 2; Wagner in Erman (above n251), para 388 BGB para 4; Dennhardt in Bamberger, Heinz Georg and Roth, Herbert (eds) (above n247) para 388 BGB para 5; Schlüter in Münchener Kommentar 5th edn (Munich, CH Beck, 2007) para 387 BGB para 39. 259 See, eg, Gernhuber, Erfüllung (above n242) 283. 260 As to these genuinely procedural questions see Spiro, Erwin, ‘Forum Regit Processum (Procedure Is Governed by the Lex Fori)’, 18 International Commercial Law Quarterly (1969) 949, 952 (‘Can in fact any law other than that of the forum decide questions such as: whether proceedings must be commenced by action, petition, notice of motion, etc; how the parties must be described; whether security has to be given; whether a party must be represented by counsel; how the court’s process must be served; how the pleadings must be drafted and presented, etc?’). 255

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the effects of a set-off which is procedurally dismissed but which could have merit. Numerous theories exist in order to prevent the debtor whose defence of set-off is dismissed for procedural reasons being able to rely on its cross-claim at a later stage. The details of each theory are very technical and need not be depicted here.261

ii Requirements of Set-off The right of set-off is subject to several requirements. These must be fulfilled at the time the set-off is declared.262 It is necessary that the claim and cross-claim be mutual (Gegenseitigkeit) (section a). Furthermore, the parties must owe each other money in the same currency or, at least, congeneric goods (Gleichartigkeit) (section b). The cross-claim must be enforceable (Wirksamkeit der Gegenforderung) and the main claim must be accomplishable (Erfüllbarkeit der Hauptforderung) (section c). Moreover, set-off must not be excluded by law or by agreement (section d). Whether liquidity and connectivity of the claims are necessary will be discussed below (sections e–f). a

Reciprocity

The party declaring set-off must be both creditor with regard to the crossdemand and debtor with regard to the principal claim.263 As in French law, various difficulties are attached to the question of whether the claims are indeed reciprocal. For example, the debtor cannot use a right belonging to a joint and several debtor (Gesamtschuldner) to set it off against the creditor,264 nor can the intervener set off with a claim of the supported party.265 Set-off with third party rights is not even possible where the third party would not oppose to such set-off, but it works where the creditor is not averse to it.266 A common example for a creditor’s assent are set-off clauses in affiliated group agreements. Such clauses allow the preferential party to set off with rights of other companies belonging to

261 For details see Schlüter in Münchener Kommentar (above n258), para 387 BGB para 41. cf also Dennhardt in Bamberger and Roth (above n247) para 388 BGB para 5; Wöstmann in Saenger (ed), Handkommentar ZPO (above n248) para 145 para 13. 262 See, eg, Gursky in Staudinger (above n258) Vorbem zu para 387 ff BGB paras 2, 75. 263 Decision of the BGH, 6 October 2004, NJW-RR (2005) 375, 376; Gernhuber, Erfüllung, 233; Dennhardt in Bamberger and Roth (above n247), para 387 BGB para 17; Grüneberg in Palandt (above n258), para 387 BGB, para 4. 264 Paragraph 422(2) BGB: ‘A right belonging to a joint and several debtor cannot be set off by one of the other debtors.’ (‘Eine Forderung, die einem Gesamtschuldner zusteht, kann nicht von den übrigen Schuldnern aufgerechnet werden.’) 265 See the numerous references in Gursky in Staudinger (above n258) para 387 BGB para 3 et seq; Dennhardt in Bamberger and Roth (above n247), para 387 BGB para 19 et seq, and Grüneberg in Palandt (above n258), para 387 BGB, para 5. 266 Dennhardt in Bamberger and Roth (above n247) para 387 para 19.

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the same group of companies (Konzernverrechnungsklauseln).267 These are, however, set-off agreements which are not subject to the rules governing unilateral set-off. Furthermore, the debtor cannot set off against a stockholder’s claim with a cross-claim that it has against the company.268 Similarly, the debtor cannot set off against a claim which belongs to the descendants’ estate with a cross-claim that it has against one of the heirs.269 Likewise, no reciprocity of claims exists where the ship-owner is the creditor and the debtor has a claim against the agent.270 These are but a few examples which are sufficient to give an impression of the complexity of the reciprocity requirement. The issue of set-off and assignment has been settled in the BGB as follows. A debtor who, at the time it acquired a cross-claim, knew of the creditor’s assignment of a right to a third party is not entitled to set off that cross-claim against the assignee. Similarly, set-off against the assignee is excluded where the cross-claim against the assignor became due (a) later than the assigned right and (b) after the debtor was notified of the assignment.271 The provision differs from Article 1295(2) of the French Code Civil. Under French law, the debtor’s right to set-off is always excluded when it has been notified of the assignment. What matters is the debtor’s knowledge of the assignment, whereas its assent is irrelevant. The solution under German law is more generous towards the debtor. Notification of the assignment does not affect the debtor’s right to set off, except where its cross-claim becomes due later than the assigned primary claim. b

Similarity of Obligations

The primary claim and the cross-claim must both refer to money or to the same kind of goods. Whereas the multitude of cases will involve monetary obligations, the reference to obligations of the ‘same kind of goods’ has not completely lost its 267 Decision of the OLG Köln, 10 November 2004, NJW (2005) 1127, 1129; decision of the BGH, 27 March 1985, NJW (1985) 2409 et seq; Gursky in Staudinger (above n258) Vorbem zu para 387 ff BGB para 94; Dennhardt in Bamberger and Roth (above n247) para 387 para 14; Esser and Schmidt (above n257) para 18 III 1 a (300). 268 Paragraph 719(2) BGB: ‘The debtor cannot use a debt that he has against a single member of the company to set it off against a right belonging to the company’s own assets.’ (‘Gegen eine Forderung, die zum Gesellschaftsvermögen gehört, kann der Schuldner nicht eine ihm gegen einen einzelnen Gesellschafter zustehende Forderung aufrechnen.’) 269 Paragraph 2040(2) BGB: ‘The debtor who has a claim against one of the co-heirs cannot set off against a claim which belongs to the descendants’ estate.’ (‘Gegen eine zum Nachlass gehörende Forderung kann der Schuldner nicht eine ihm gegen einen einzelnen Miterben zustehende Forderung aufrechnen.’) 270 Decision of the OLG Hamburg, 9 July 1986, VersR (1986) 1189, 1991. 271 Paragraph 406 BGB: ‘The debtor may set off against the new creditor a right that he has against the former creditor, unless he knew, at the time he acquired his right, of the assignment, or unless the right became due after acquiring knowledge and later than the assigned right.’ (‘Der Schuldner kann eine ihm gegen den bisherigen Gläubiger zustehende Forderung auch dem neuen Gläubiger gegenüber aufrechnen, es sei denn, dass er bei dem Erwerb der Forderung von der Abtretung Kenntnis hatte oder dass die Forderung erst nach der Erlangung der Kenntnis und später als die abgetretene Forderung fällig geworden ist.’)

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importance: it includes obligations for company shares or other negotiable papers, goods in futures trading, or consumer goods.272 The fact that the set-off of claims referring to obligations other than money is allowed resembles French law, which contains a similar provision in Article 1291(1) Code Civil, and can be traced back to Roman law.273 However, under German law, money debts expressed in different currencies are principally not considered as ‘similar obligations’.274 The discussion is centred around paragraph 244(1) BGB. This provision allows money debts which are to be paid inland and are expressed in a currency other than Euro to be paid in Euro, if the parties have not explicitly agreed otherwise.275 Paragraph 244(1) BGB limits the possibility to set off debts in foreign currency in two respects. First, the provision implies that, for a set-off, the primary debt must be expressed in Euro. Second, only the debtor of a foreign currency money debt is entitled to set off, not the creditor.276 The majority in case law and literature follows this narrow view, though with several variations or reservations.277The situation is not simplified by recent developments, which are promoting a broader interpretation of paragraphs 244 and 387 BGB. There are several proponents of the view that

272 Decision of the BGH, 5 November 1998, NJW (1999) 635; Heermann, Peter W, ‘Ringtausch, Tauschringe und multilaterales Bartering’ Juristenzeitung (1999) 183; see also Gernhuber, Erfüllung (above n242) 236; Gursky in Staudinger (above n258) para 387 ff BGB para 98; Wagner in Erman (above n251), para 387 BGB para 13. 273 See above at 51−52. 274 cf Decision of the KG, 29 June 1988, NJW (1988) 2181; decision of the OLG Hamm, 9 October 1998, NJW-RR (1999) 1736; Schlüter in Münchener Kommentar (above n 258), para 387 BGB, para 32; Dennhardt in Bamberger and Roth (above n247) para 387 BGB para 28; Grüneberg in Palandt (above n258), para 387 BGB para 9; Martiny in Reithmann, Christoph and Martiny, Dieter (eds), Internationales Vertragsrecht. Das internationale Privatrecht der Schuldverträge, 7th edn (Cologne: Verlag Dr Otto Schmidt, 2010) para 287; Gruber, Joachim, ‘Die Aufrechnung von Fremdwährungsforderungen’ Monatsschrift für Deutsches Recht (1992) 121, 122; Wolf, Martin, Die Aufrechnung im internationalen Privatrecht (Dortmund: Koffler-Druck, 1989) 29. 275 Paragraph 244 BGB: ‘(1) If a money debt expressed in another currency than Euro is to be paid inland, payment can be made in Euro, unless payment in another currency has been explicitly provided for. (2) Conversion is effected according to the market value applicable at the time and place of payment.’ (‘(1) Ist eine in einer anderen Währung als Euro ausgedrückte Geldschuld im Inland zu zahlen, so kann die Zahlung in Euro erfolgen, es sei denn, dass Zahlung in der anderen Währung ausdrücklich vereinbart ist. (2) Die Umrechnung erfolgt nach dem Kurswert, der zur Zeit der Zahlung für den Zahlungsort maßgebend ist.’) 276 Janert, Ingo, Die Aufrechnung im internationalen Vertragsrecht (Frankfurt am Main: Peter Lang, 2002) 133. 277 Decision of the BGH, 7 April 1992, IPRax (1994) 366; Grothe, Helmut, ‘Bindung an die Parteianträge und ‘Forderungsverrechnung’ bei Fremdwährungsklagen’ Praxis des Internationalen Privat- und Verfahrensrechts (1994) 364; Gruber, MDR (1992) 121, 122; Gernhuber, Erfüllung, 239; Grüneberg in Palandt (above n258), para 387 BGB para 9; Gursky in Staudinger (above n258) para 387 ff BGB para 80; Spickhoff in Bamberger and Roth (above n247) art 32 EGBGB n10; Ferid, Murad, Internationales Privatrecht. Das neue Recht. Ein Leitfaden für Praxis und Ausbildung, Juristische Arbeitsblätter Sonderheft 13, 3rd edn (Frankfurt am Main: Alfred Metzner Verlag, 1986) para 6–118; Martiny in Reithmann and Martiny (above n274) para 287; Wolf, Aufrechnung (above n274) 29 et seq.

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claims in foreign currency should always be considered ‘similar’ within the meaning of paragraph 387 BGB, at least where the currencies are freely convertible.278 The issue seems to be in flux these days.279 c Validity, Maturity, and Enforceability of Cross-claim The Principle It is almost self-explanatory that the cross-claim must be enforceable,280 ‘because the party setting off his claim against the claim of the other party forces on this party the fulfilment of an obligation which otherwise could be achieved only with the aid of a court. Since set-off under German law is nothing but a form of self-help, this can only be tolerated if all the conditions, which a court would require, are met when ordering the enforcement of a claim.’281 Enforceability requires that the cross-claim is due and not subject to deferment or to a condition precedent.282 Future claims or claims that have expired are not enforceable, nor are claims arising out of gambling or betting.283 The requirement of enforceability is repeated in paragraph 390 BGB, which states that cross-claims subject to a defence cannot be set off. Statute of Limitations There is an important exception to the principle that the cross-claim must be enforceable. Limitation (Verjährung) of a cross-claim does not exclude set-off if the cross-claim had not been prescribed at the time at which it could have been set off against the other claim: paragraph 215 BGB.284 This is a protection for the 278 Kegel, Gerhard and Schurig, Klaus, Internationales Privatrecht, 9th edn (Munich: CH Beck, 2004) para 18 V (754) (who do not exclude an extension beyond free convertibility of currencies); Maier-Reimer, Georg, ‘Fremdwährungsverbindlichkeiten’ Neue Juristische Wochenschrift (1985) 2049, 2051; Janert, Aufrechnung, 190; Wagner in Erman (above n251), para 387 BGB para 12; see also decision of the OLG Koblenz, 3 May 1991, RIW (1992) 59. 279 For a detailed analysis of the present state of opinions cf Janert, Aufrechnung (above n276) 134 et seq.; see also Vorpeil, Klaus, ‘Aufrechnung bei währungsverschiedenen Forderungen’ Recht der Internationalen Wirtschaft (1993) 529, 530 et seq. 280 Paragraph 387 BGB: ‘If two persons owe each other performances of a similar kind, each party is entitled to set off his claim against the claim of the other party, as soon as he can claim performance of what is due to him and effect performance of what he owes.’ (‘Schulden zwei Personen einander Leistungen, die ihrem Gegenstand nach gleichartig sind, so kann jeder Teil seine Forderung gegen die Forderung des anderen Teils aufrechnen, sobald er die ihm gebührende Leistung fordern und die ihm obliegende Leistung bewirken kann.’) (Emphasis added) 281 Markesinis, Basil, Unberath, Hannes and Johnston, Angus, The German Law of Contracts, A Comparative Treatise, 2nd edn (Oxford and Portland, Oregon: Hart Publishing, 2006) 376; cf also Zimmermann, Comparative Foundations (above n6) 50; Esser and Schmidt (above n257) para 18 III 1 c (301). 282 See the references in Gernhuber, Erfüllung (above n242) 247 et seq; Grüneberg in Palandt (above n258), para 387 BGB para 11. 283 See the references in Dennhardt in Bamberger and Roth (above n247) para 387 BGB para 31. As to gambling and betting creating no obligation, see para 762 BGB. A further example of obligationes naturales are fees for matchmaking, para 656 BGB. 284 Paragraph 215 BGB: ‘Prescription does not exclude the right to set-off and the right of retention, if the claim was not prescribed at the time at which the right to set-off or to retain arose.’

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debtor: if the debtor, in light of the fact that it has a cross-claim against the creditor, assumes that it is freed from its liability towards the creditor and remains passive, it shall be entitled to rely on the fact that it is no longer liable to the creditor. Therefore, prescription of the cross-claim subsequent to the date of first-time eligibility for set-off bears no relevance. Paragraph 215 BGB is often seen as a consequence of the retroactive effect of a set-off declaration, namely that set-off is dated back to the time the claim and the cross-claim countered each other.285 However, if retroactivity meant that the requirements for set-off need be met only at the time the claims were eligible for set-off, this would have to count for all requirements. Yet the other set-off requirements (reciprocity, similarity, etc) must be fulfilled at the time of set-off declaration. Thus, there is no general backdating of set-off requirements. Paragraph 215 BGB is not to be confused with the retroactive effect of set-off, which concerns the consequences of a valid set-off only. Enforceability of Cross-claim Only The claim against which set-off is declared need not be enforceable. It is sufficient if it can be effectuated (Erfüllbarkeit). The claim need not be due. It may be subject to a resolutive condition, it may be voidable for vitiated consent, or it may be a debt explicitly considered as unenforceable, such as debts arising out of gambling and betting.286 The reason for not requiring enforceability of the principal claim is that, as soon as the debtor may impose its payment upon its creditor (which may be long before the claim falls due), there is no reason not to allow it to declare set-off.287 German law differs from French law, where both claims must be enforceable. The difference must be seen against the background that the Code Civil embodied the ipso iure model. If both claims are extinguished automatically, that is, extinction takes place regardless of whether (one of) the parties intended it, the requirement for such forced extinction must be met, which is the enforceability of each of the claims.288 In contrast, under the German declaration model, the party wishing to set off (the debtor) intends the extinction of the claims, whereas the other party (the creditor) arguably does not. The creditor must therefore accept the extinction of its (primary) claim only if the debtor could claim performance of the cross-claim instead. As for the debtor, extinction of its claim

(‘Die Verjährung schließt die Aufrechnung und die Geltendmachung eines Zurückbehaltungsrechts nicht aus, wenn der Anspruch in dem Zeitpunkt noch nicht verjährt war, in dem erstmals aufgerechnet oder die Leistung verweigert werden konnte.’) 285

Above at 65. See the references in Gernhuber, Erfüllung (above n242) 252 et seq; Dennhardt in Bamberger and Roth (above n247) para 387 BGB para 33 et seq; Gursky in Staudinger (above n258) para 387 ff BGB para 116 et seq. 287 Zimmermann, Comparative Foundations (above n6) 50. 288 Above at 53. 286

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is not forced upon it; it is the debtor who triggers it by way of set-off. Thus, the debtor need not be protected by requiring that also the primary claim be enforceable. d

Obstacles to Set-off

A number of provisions (paragraphs 390 to 395 BGB) exclude the right to set-off in certain situations.289 According to paragraph 390 BGB, cross-claims that can be warded off or are otherwise subject to a defence cannot be set off.290 It has already been mentioned that there is an exception to paragraph 390 BGB in that a cross-claim against which the cross-claim-debtor could raise the defence of statute of limitations can nonetheless be set off if it had not been prescribed at the time at which it could have been set off against the primary claim, paragraph 215 BGB.291 Paragraph 391(2) BGB contains a rule of interpretation where the parties have agreed on a particular place and time for performance. In such a case, it is presumed that the parties excluded the possibility of setting off their respective claims. The underlying idea seems to be that in such cases, the creditor ascribes particular importance to the modalities of performance,292 which again shows that receiving real performance is crucial for it. Set-off is further excluded where the claim against which set-off should be declared has been confiscated before the debtor acquired the cross-claim or where the cross-claim became due subsequent to the claim’s confiscation.293 Other set-off exclusions refer (a) to a creditor’s claim arising out of deliberately committed tort (wilful delict),294 (b) as a principle, to claims that are unseizable,295 and (c) with certain exceptions, to claims where the creditor is a public authority.296 Further exclusions may be found in separate statutes.297 The parties can, of course, also agree not to set off their respective claims. In court, a contractual exclusion of the right to set-off must be observed ex officio.298 Compared to French law, the exclusion provisions of the BGB use broader wording and are thus of greater practical importance than the respective provisions of the Code Civil. A reason for excluding the right of set-off which is similar 289 For a detailed discussion of paras 390–95 BGB see Gursky in Staudinger (above 258) para 390 et seq BGB; Gernhuber, Erfüllung (above n242) 255 et seq. 290 See also above at 72. 291 Above at 72−73. 292 cf Mugdan, Benno, Die gesamten Materialien zum Bürgerlichen Gesetzbuch für das deutsche Reich, Vol II (Berlin, 1899) (reprinted in Aalen: Scientia Verlag: 1979) 566. 293 Paragraph 392 BGB. For details see, eg, Dennhardt in Bamberger and Roth (above n247) para 392 para 2 et seq. 294 Paragraph 393 BGB. 295 Paragraph 394 BGB. 296 Paragraph 395 BGB. The provision makes it concomitantly clear that, if not stated otherwise, the set-off of the BGB (para 387 et seq) is also applied within public law. 297 See the references in Dennhardt in Bamberger and Roth (above 247) para 387 BGB para 36; Grüneberg in Palandt (above n258), para 387 BGB para 13. 298 Decision of the BGH, 18 June 2002, NJW (2002) 2779; decision of the BGH, 12 January 2000, NJW-RR (2000) 530.

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in both laws is the involvement of unseizable claims, although the formula used in the Code Civil is narrower and has only been expanded by the courts. A comparable rationale may be found in Article 1293 No 1 Code Civil and paragraph 393 BGB. Again, the French provision is narrower, excluding the right to set-off where the primary claim seeks restitution of goods of which the creditor has been unduly deprived. The German version states a more general rule. By excluding set-off where the primary claim ‘arises out of deliberately committed tort’, it refers not only to a restitutionary right, but to all possible remedies for such tort. By doing so, it considerably broadens the scope of application of paragraph 393 BGB compared to its French counterpart. e Ascertainment of the Cross-claim? Unlike the French Code Civil, the German BGB does not state the requirement of both claims being liquidated. According to the Roman model,299 the German Pandectic scholars classified liquidity as a matter of procedural law and placed it in the hands of the judge. The court should not be forced to hear a set-off defence if the cross-claim was illiquid.300 The draftsmen of the BGB followed suit and did not make liquidity a substantive requirement for set-off. Thus, from a substantive law perspective, set-off is not prevented on account of the fact that the crossclaim still needs to be ascertained by way of calculation or proof.301 The German Civil Procedure Act, however, contains a provision that entitles the judge to ignore a set-off if its determination would unduly protract the proceedings. According to paragraph 302(1) ZPO, the court may render a decision on the main claim and leave the adjucation of the cross-claim for a later stage, if the cross-claim is not ripe for decision.302 A cross-claim will not be ripe for decision if it has not yet been ascertained whether it is admissible or whether it has merit.303 Admissibility of the claim and its chances of success are questions of law (as opposed to questions of fact) and must be examined by the court, although it is disputed how extensive the examination of the claim’s admissibility must be. Opinions are reaching from a mere prima facie check to an in-depth investigation, including factual questions.304 Whether the court must undertake further legal, time-consuming investigations other than whether the cross-claim is inadmissible or unfounded is disputed.305 Factual questions surrounding the cross-claim which still need to be clarified will usually make the cross-claim 299

Above at 34. Dernburg, Kompensation (above n9) 554 et seq. 301 Dennhardt in Bamberger and Roth (above n247) para 387 BGB para 16. 302 Paragraph 302(1) ZPO reads in the German original: ‘Hat der Beklagte die Aufrechnung einer Gegenforderung geltend gemacht so kann, wenn nur die Verhandlung über die Forderung zur Entscheidung reif ist, diese unter Vorbehalt der Entscheidung über die Aufrechnung ergehen.’ 303 Saenger in Saenger, Ingo (ed), Zivilprozessordnung, Handkommentar, 3rd edn (Baden-Baden: Nomos, 2009) para 302 para 4. 304 See the references in Museliak in Münchener Kommentar 3rd edn (Munich: CH Beck, 2008), para 302 ZPO para 4. 305 ibid. 300

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appear not ripe for decision, which allows for a provisional judgment (Vorbehaltsurteil).306 Apart from all this, however, the court enjoys broad, non-revisable discretion in deciding whether the cross-claim is liquidated or not.307 It must be noted that, prior to May 2000, an unliquidated cross-claim could only be rejected by the court if it was not legally connected with the main claim.308 The element of ‘legal connection’ was interpreted very broadly, including also claims with an ‘inner economic relation’.309 Today, connectivity no longer prevents the court from rejecting the set-off defence, as paragraph 302(1) ZPO applies also to claims that are tightly connected with each other, stemming, for example, from the same contract. This brief overview shows that, from a procedural point of view, liquidity of the cross-claim, that is, the question of whether the cross-claim is ripe for decision, is not irrelevant at all in German law, but it will only matter if the set-off is dealt with judicially. f Connectivity of Primary Claim and Cross-claim? As with liquidity, German substantive law of set-off does not require any connection between the claim and the cross-claim. The question of connectivity does, however, become relevant in court proceedings. Pursuant to paragraph 145(3) ZPO, if the defendant asserts set-off of a cross-claim which has no legal connection to the principal claim, the court may order that the principal claim and set-off will be treated separately.310 The purpose of paragraph 145(3) ZPO is to structure the proceeding and avoid its protraction.311 145(3) ZPO governs, on the one hand, the situation where set-off is declared for the first time in court (Prozessaufrechnung). However, it will also apply where the defendant has asserted a right to set-off outside court proceedings and now relies on the fact that it has successfully defeated the claimant’s claim by having set off its

306

ibid; Museliak in Museliak (above n258) para 302 ZPO para 5. Saenger in Saenger (ed), Handkommentar ZPO (above n303) para 302 para 5; Museliak in Museliak (above n258), para 302 ZPO para 7. Recently, the BGH seems to have restricted the lower courts’ ad libitum discretion by stating minimal guidelines, see decision of the BGH, 24 November 2005, NJW (2006) 698, with note Münch, Joachim, [case annotation] BGH: Ermessenskontrolle für Erlass eines Vorbehaltsurteils, LMK (2006) 170094. 308 See, eg, decision of the BGH, 8 November 1995, NJW (1996) 395, with note Schmitz and Goldmann in NJW (1999) 2952. 309 Schaefer, Thomas, ‘Vorbehaltsurteil gemäß § 302 ZPO—Dornröschenschlaf beendet?’ NZBau (2006) 206, with references to case law. 310 Paragraph 145(3) ZPO: ‘If the defendant asserts set-off of a cross-claim which has no legal connection to the principal claim, the court may order that principal claim and set-off will be treated separately; […].’ (‘Macht der Beklagte die Aufrechnung einer Gegenforderung geltend, die mit der in der Klage geltend gemachten Forderung nicht in rechtlichem Zusammenhang steht, so kann das Gericht anordnen, daß über die Klage und über die Aufrechnung getrennt verhandelt werde; […].’) 311 Wagner in Münchener Kommentar (above n255), para 145 ZPO para 1; Wöstmann in Saenger (above n248) para 145 para 1. 307

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cross-claim.312 If the cross-claim bears no connection whatsoever with the main claim, the court may choose to deal with the cross-claim in a separate trial.313 Briefly summarised, connectivity is not a requirement of set-off. However, similarly to the element of liquidity, it is a criterion on which the court may rely if it wishes to cut off an unrelated set-off objection.314 g

Interplay of Ascertainment and Connectivity of Claims

Until recently, connectivity and liquidity were intertwined in German procedural law. Paragraph 302(1) ZPO would only have allowed an unliquidated cross-claim to be ignored if the cross-claim was not legally connected with the main claim. In other words: if claim and cross-claim were connected, the question of whether the cross-claim was liquidated bore no relevance. Liquidity was only significant where connectivity was lacking. This has changed. Under the new version of paragraph 302(1) ZPO, connectivity between the main claim and the cross-claim will no longer prevent the court’s rejection of the set-off defence if the court comes to the conclusion that the cross-claim is not yet ripe for decision. An interplay between liquidity and connectivity may, however, be found in paragraph 145(3) ZPO. The court enjoys broad discretion in deciding whether or not to deal with an unconnected cross-claim, though it is guided by the rationale of paragraph 145(3), which is procedural efficiency and economy.315 The main commentaries are silent about the criteria which should determine whether an unconnected cross-claim may unduly protract the proceedings.316 It may be assumed that liquidity plays a role. The more easily the legal and factual questions surrounding the cross-claim can be solved, that is, the more the cross-claim is liquidated, the more it is likely that the proceedings are not overly protracted. Neither liquidity nor connectivity are matters of substantive law. They belong to procedural law. This observation is important in situations where set-off is not

312 See Leipold in Stein and Jonas (above n251) para 145 ZPO para 73; Greger in Zöller (above n249) para 145 ZPO para 11. As to the different ways to introduce a set-off in judicial proceedings see above at 66−69. 313 Wöstmann in Saenger (above n248) para 145 para 11. 314 See also Leipold in Stein and Jonas (above n251) para 145 ZPO para 63. 315 Above at 75. 316 cf Leipold in Stein and Jonas (above n251) para 145 ZPO; Smid in Wieczorek and Schütze (above n255) para 145 ZPO; Greger in Zöller (above n249) para 145 ZPO; Wagner in Münchener Kommentar, para 145 ZPO; Stadler in Museliak (above n258) para 145 ZPO and also Wöstmann in Saenger (above n248) para 145. None of them provides guidelines to assess the risk of protracting the proceeding.

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a mere domestic transaction but occurs in an international context, because it raises the question of whether liquidity and connectivity are required if German law applies.317

iii Retroactive Effect of Set-off The drafters of the BGB followed the view of the Pandectistic scholar Dernburg that, unless set-off has been declared, the two debts are independent and unrelated to each other.318 Furthermore, they joined the majority of contemporary Roman law scholars in the idea that once set-off had been declared it had general retroactive effect.319 They did so though admitting that an extinction of cross-demands as of the time of declaring set-off (so-called ex-nunc-effect, as opposed to ex-tunc-effect) would probably have been the dogmatically clearest and simplest way.320 Their candid explanation for adopting retroactivity was that, with an ex-nunc-effect, the importance of set-off as a legal instrument would wither, as interest would have to be paid until set-off was declared and the debtor would have to comply with any penalty clauses up to the time it declared set-off, despite the fact that its right to set off might have existed for quite some time. In other words, the debtor would be treated as if it had no cross-demand against the creditor itself, and this again would strip set-off of its quality as a ‘good faith’-defence, the underlying idea of which is that it is unfair to treat the claimant as if it owed nothing to the defendant where the parties are reciprocally creditor and debtor.321 The consequences of retroactivity have been summarised when outlining the history of set-off in Germany.322 (a) Interest no longer accrues, and where it has been paid it may be reclaimed by means of condictio indebiti; (b) neither party is deemed to have been in default (Schuldnerverzug); and (c) contractual penalties 317

See below at 171−72. cf Mugdan, Materialien (above n292) 60. 319 Paragraph 389 BGB: ‘Set-off operates to the effect that debts, as far as they are congruent, are deemed to have been extinguished as of the time when they first faced each other and were capable of being set off.’ (‘Die Aufrechnung bewirkt, dass die Forderungen, soweit sie sich decken, als in dem Zeitpunkt erloschen gelten, in welchem sie zur Aufrechnung geeignet einander gegenübergetreten sind.’) 320 cf Mugdan, Materialien (above n292) Motive II 109 ‘[B]y denying a retroactive effect, clear and plain law [would] be created[,] […] and […] such denial [would] also be more in concert with the idea underlying the legislative draft that both debts coexist until set-off has been declared by the one or the other party …’. (‘[D]urch die Verneinung der rückwirkenden Kraft [würde] klares und einfaches Recht geschaffen[,] […] und […] diese Verneinung [stände] auch mit der dem Entwurfe zu Grunde liegenden Auffassung, wonach sich beide Forderungen bis zur Aufrechnungserklärung des einen oder anderen Theiles gegenüberstehen, eher im Einklang [ . . .])’. 321 Mugdan, Materialien (above n292) Motive II 107; cf also Mugdan, Materialien, Protokolle I (above n292) 562. The same idea continues to appear in later literature, see, eg, Enneccerus and Lehmann, para 71 I (286) (‘Als schwere Unbilligkeit und Ungerechtigkeit müßte er [= der Schuldner] es also empfinden, wenn alle Nachteile, welche seine bereits aufrechenbare und daher als nicht vorhanden angesehene Schuld oder Forderung vor der Aufrechnungserklärung getroffen haben, auch nach erklärter Aufrechnung bestehen blieben.’). 322 Above at 64−65. 318

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have not become due.323 A question which has been disputed for a long time is whether a debtor who has paid its debt without realising that it could have declared set-off can avail itself of an unjustified enrichment claim. The majority of recent literature denies the possibility of a condictio indebiti claim,324 though uncertainties remain.325 The parties may derogate from the retroactive effect provided in paragraph 389 BGB and agree that set-off takes effect ex nunc.326 The fact that a principally time-barred cross-claim can be set off if the cross-claim was not prescribed when the possibility to set off arose (paragraph 215 BGB) is not to be attributed to retroactivity of set-off. This can only affect the effects of a set-off, whereas the possibility of set-off with a prescribed claim concerns the question of what the requirements of set-off are. Allowing for a set-off despite the cross-claim’s prescription is rather a facilitation of set-off on the requirements level for which the drafters of the BGB had opted.327

C Set-off in Switzerland There follows a brief examination of the historical development of Swiss law of set-off (section i) before discussing the operation (section ii), requirements (section iii), and effects of set-off (section iv).

i Historical Development Swiss set-off law is, to a large extent, similar to that of Germany. It will thus suffice to give a brief overview of Article 120 et seq. of the Swiss Code of Obligations in order to point out the salient features and refer to any differences that might exist between German and Swiss law of set-off. Swiss private law was unified in two steps. The law of obligations was unified as early as in 1881. A unified code of the remaining private law, including family, inheritance and property law, followed in 1911. Prior to the enactment of a unified Swiss Civil Code in 1911, the Swiss legal scene was divided into many single cantonal codifications. These codifications can be categorised into three major groups of law, each of which was exposed to other historical influences. The so-called ‘Code Civil Group’, which consisted of the private laws of the cantons Geneva, Vaud, Valais, Neuchâtel, Fribourg, and Ticino,328 adopted the 323 Gernhuber, Erfüllung (above n242) 310 et seq; Dennhardt in Bamberger and Roth (above n247) para 389 BGB para 3. 324 cf, eg, Gursky in Staudinger (ed) (above n258) para 389 BGB para 4; Gernhuber, Erfüllung (above n242) 288 et seq. For a contrary view—albeit from the 1950s—see, eg, Enneccerus and Lehmann (above n50) para 71 II (288). 325 For details see the references in Dennhardt in Bamberger and Roth (above n247) para 389 BGB para 7. 326 Gernhuber, Erfüllung (above n242) 309. 327 See above at 65. 328 For details regarding the ‘Code Civil Group’, see Elsener, Ferdinand, ‘Geschichtliche Grundlegung, Rechtsschulen und kantonale Kodifikationen bis zum Schweizerischen Zivilgesetzbuch’ in

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‘ipso iure’-operation of set-off. In accordance with Article 1290 of the French Code Civil, the French-speaking Swiss cantons provided that set-off occurred automatically at the time concurring debts face each other.329 The so-called ‘Berne Group’, which included, among others, the civil law codifications of the cantons of Berne, Lucerne, Solothurn, and Aargau,330 does not show the same clear-cut profile regarding the law of set-off. The Berne Group codifications modelled themselves largely on the Austrian Allgemeines Bürgerliches Gesetzbuch (ABGB) of 1811.331 The latter had adopted the ‘ipso iure’model.332 Accordingly, some cantonal codifications belonging to the Berne Group assumed that set-off took place automatically.333 The other cantons, however, did not follow the Austrian model, providing for either a declaration concept or no legal set-off at all.334 A third group was centred around the Zurich codification, consisting, inter alia, of Zurich, Grisons, and Schaffhausen.335 Unlike the other two, this group did not assume automatic set-off, but rather required a declaration by one of the parties to the other—very much like the German BGB.336 The various cantonal laws of obligations were unified in the late nineteenth century.337 The unified Swiss codification took much from the Zurich

Gutzwiller, Max (ed), Schweizerisches Privatrecht I: Geschichte und Geltungsbereich (Basel and Stuttgart: Helbing and Lichtenhahn, 1969) 214 et seq; Störi-Schütz, Suzanne, Die Kompensation von Forderungen im schweizerischen Recht bis zum Erlass des Obligationenrechts von 1881 (Zurich: Doctoral Thesis, 1978) 65 et seq. 329 See art 1290 of the Geneva codification; art 961 of the Vaud codification; art 653 of the Ticino codification; art 1328 of the Fribourg codification; art 1160 of the Valais codification. Excerpts of those codifications are depicted in Störi-Schütz, Kompensation (above n328) 70, 82, 88, 92, 97. An exception from the ipso iure-operation was made in the Neuchâtel codification, where set-off operated, in principle, ope exceptionis. It had to be asserted by one of the parties. An ipso iure-effect was only provided in current account relations or where one of the parties had become insolvent and his debts had been recognised and liquidated, art 1055 No 2 (‘La compensation s’opère de plein droit: 1. Entre personnes qui sont en compte courant pour tout ce qui fait la matière du compte; 2. Entre les créances actives et passives d’un créancier dans la masse de son débiteur en faillite, après que ces créances ont été reconnues et liquidées’). 330 See Elsener, Geschichtliche Grundlegung (above n328) 60 et seq, 90, 103; Störi-Schütz, Kompensation (above n328) 30. 331 Elsener, Geschichtliche Grundlegung (above n328) 62. 332 As to the ipso iure model in the Austrian ABGB cf below at 91−92. 333 This holds true for the codification of Lucerne (para 767). The Solothurn codification applied the ipso iure-model only to reciprocal obligations other than money debts, para 1476; for money debts, set-off had to be raised as an exception, para 1477(1). 334 The wording of the Aargau codification was somewhat unclear but apparently required the assertion of set-off by one of the parties, thus deviating from the Austrian ipso iure model, see Störi-Schütz, Kompensation (above n328) 61. Berne, again, allowed only for a contractual set-off, para 1014 of the Berne Civilgesetzbuch. 335 See Elsener, Geschichtliche Grundlegung (above n328) 151 et seq, 196; Störi-Schütz, Kompensation (above n328) 112 et seq. 336 For details cf Störi-Schütz, Kompensation (above n328) 118 et seq, 125, 129. 337 Swiss Law of Obligations of 1881.

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codification, including the set-off declaration model. The revision of the Swiss Code of Obligations in the early twentieth century brought only a marginal change for the law of set-off.338

ii Operation by Extra-judicial Declaration a

Principal Rule

The principle that set-off needs to be declared is embodied in Articles 120(2) and 124(1) of the Code of Obligations.339 Like the German BGB, the Swiss Code contents itself with an informal, unilateral declaration by one party to the other. Such declaration may be explicit or implicit, as long as it clearly expresses the debtor’s intent to set off.340 Furthermore, from the declaration or at least from the circumstances it must be obvious which the primary claim and which the cross-claim is. Otherwise, the declaration will be deemed incomplete and thus ineffective.341 b

Set-off Declaration in Judicial Proceedings (Prozessaufrechung)

The declaration concept does not exclude the debtor who wishes to set its cross-claim off against the creditor’s claim with the set-off declaration from waiting until it comes to judicial proceedings. The difficulties arising in such a case may be compared to those under German law,342 merging into the question of what the nature of such ‘Prozessaufrechnung’ is and to what extent procedural provisions are to be taken into account. The Federal Tribunal held as early as 1937 that procedural provisions must not undermine substantive law by requiring, for example, that the venue of the cross-claim must be the same as the venue

338 A provision similar to para 215 BGB was inserted, which provides for the possibility to set off with a time-barred claim if it was not prescribed when the possibility for set-off arose, see Zeerleder, Fritz, Schweizerisches Obligationenrecht vom 30 März 1911: Textausgabe mit Einleitung und Verweisungen auf das alte Gesetz (Berne: Staempfli Publishers, 1911) art 120. 339 Article 120(2) CO: ‘The debtor can assert set-off even if his cross-claim is being disputed.’ Article 124(1) CO: ‘Set-off only becomes effective to the extent that the debtor indicates to the creditor that he wants to make use of his right to set off.’ 340 See decision of the Swiss Federal Tribunal, 3 June 1909, DFT 35 I 487; decision of the Geneva Court of Justice, 23 April 1948, SemJud 1948, 569, 574; decision of the Geneva Court of Justice, 23 June 1978, SemJud 1979, 365, 368; von Tuhr, Andreas and Escher, Arnold, Allgemeiner Teil des Schweizerischen Obligationenrechts, Vol II, 3rd edn (Zurich: Schulthess, 1974) 204; Schwenzer, Ingeborg, Schweizerisches Obligationenrecht Allgemeiner Teil, 5th edn (Berne: Staempfli Publishers, 2009) para 78.02; Gauch, Peter; Schluep, Walter and Emmenegger, Susan, Schweizerisches Obligationenrecht Allgemeiner Teil, Vol II, 9th edn (Zurich: Schulthess, 2008) para 3247 et seq; Aepli, Viktor, ‘Ausgewählte Fragen zur Verrechnung 1’ Baurecht (1990) 3, 6; Engel, Pierre, Traité des obligations en droit suisse, 2nd edn (Berne: Staempfli Publishers, 1997) 675; Killias in Amstutz, Marc et al (eds), Handkommentar zum Schweizer Privatrecht (Zurich: Schulthess, 2007) art 124 CO, para 6. 341 See decision of the Swiss Federal Tribunal 4C.25/2005 (15 August 2005), cons C 4.1. 342 See the discussion above at 66−69.

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of the main claim, or that the primary claim and the cross-claim must arise out of the same relationship, or that the cross-claim’s amount must not exceed the amount of the main claim.343

iii Requirements a

Reciprocity

Principal Rule Like in French and German law, set-off can only take place where the parties are mutually indebted to each other.344 The party declaring set-off may not use a third party’s claim to set off against the creditor’s claim, and it cannot declare set-off against a claim that the creditor has against a third party.345 Whether the debtor of the claim is, at the same time, the creditor of the cross-claim, and whether the creditor of the main claim is the debtor with regard to the cross-claim must be carefully determined. The legal construction on both sides must be scrutinised. Set-off is, for example, possible where different branches of two banks hold a claim and a cross-claim, respectively, because it is not the branches, but the banks who are reciprocally debtor and creditor.346 In contrast, no mutuality exists where the creditor has a claim against a member of a partnership to be paid a loan and the partnership has a cross-claim for damages.347 Article 573(1) of the Code of Obligations addresses this question with regard to Kollektivgesellschaften (société en nom collectif; società in nome collettivo), a specific form of non-incorporated partnership with restricted capacity. It states that ‘[a] debtor may not set off a claim due to him from an individual partner against a claim of the company nonincorporated partnership’. Correspondingly, a partner may not set off a claim of the non-incorporated partnership against its debtor, except where the debtor of the non-incorporated partnership is, at the same time, the private debtor of that partner.348 Article 614 Code of Obligations submits the Kommanditgesellschaft (société en commandite; società in accomandita), a form of private limited partnership, to the same rules as Article 573.

343 Decision of the Swiss Federal Tribunal, 17 March 1937, DTF 63 II 133, 139 et seq; decision of the Swiss Federal Tribunal, 5 May 1959, DFT 85 II 103, 106. 344 Article 120(1) CO: ‘Where two persons owe each other monetary sums or other obligations which are similar in their content each [person] may set off its claim against the other party’s claim, as long as both claims are due.’ cf also decision of the Swiss Federal Tribunal, 10 January 2006, DFT 132 III 342, 350. 345 Von Tuhr and Escher, Obligationenrecht (above n340) 191 et seq; Schwenzer, Obligationenrecht (above n340) para 77.04; Gauch, Schluep, Schmid and Emmenegger, Obligationenrecht (above n340) para 3210 et seq; Engel, Obligations (above n340) 671; Aepli in Gauch, Peter (ed), Kommentar zum Schweizerischen Zivilgesetzbuch, Vol V, Obligationenrecht, 3rd edn (Zurich: Schulthess, 1991) art 120 para 21 et seq, 32, 36. 346 Decision of the Swiss Federal Tribunal, 26 October 1937, DTF 63 II 383, 387. 347 Decision of the Swiss Federal Tribunal, 27 October 2000, 4C.214/2000, cons 4.a. 348 Article 573(2), (3).

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It follows from the principle of reciprocity that the suretyship cannot set off against the creditor’s claim for payment a cross-claim belonging to the debtor.349 However, the suretyship may refuse payment as far as the debtor has a right to set off a cross-claim against the creditor.350 Furthermore, set-off is not possible where the debtor has promised the creditor to render a performance to the benefit of a third party (Article 112 Code of Obligations).351 Despite lacking reciprocity, set-off remains possible where the creditor agrees to it. As in German law, such assent is often reflected in set-off clauses in affiliated group agreements; they allow the preferential party to set off with rights of other companies belonging to the same group of companies (Konzernverrechnungsklauseln).352 Exceptions As in French and German law, the question of set-off and assignment of the main claim is explicitly settled. The Swiss solution has opted for a rule similar to paragraph 406 BGB. If the debtor’s cross-claim was not due at the time the debtor gained knowledge of the assignment of the main claim, the debtor may still set its cross-claim off against the assignee if it did not become due later than the assigned claim.353 The rather obvious rule in paragraph 406 BGB, which prohibits set-off if the debtor knew of the assignment when acquiring its right against the creditor, has not been inserted in the Swiss Code of Obligations. Furthermore, according to the prevailing view in literature, the person securing another party’s debts with a pledge354 may redeem the pledge not only by payment but also by setting off with a cross-claim that it has against the creditor, although the creditor’s claim is not directed towards the pledger, but towards the pledge itself (so-called ‘obligation in rem’).355

349 Swiss law of suretyship operates to the effect that the suretyship promises the creditor to pay the debtor’s debt if the latter has become insolvent at the time its debt is due. The suretyship contract is concluded between the surety and the creditor, cf art 492(1) Code of Obligations. 350 Article 121 Code of Obligations. 351 Swiss law differentiates between two cases of ‘contracts to the benefit of a third party’. In the first case, the benefited third party himself is entitled to demand performance of the contract (art 112(2)). This situation lacks reciprocity of claim and cross-claim, as required by art 120(1): the debtor’s cross-claim is directed towards the creditor, whereas the main claim is held by the benefited third party. Set-off is, thus, excluded. In the second category of contract to the benefit of a third party, where the benefited third party has no right of its own to demand performance (this right is the creditor’s exclusively, art 112(1)), set-off by the debtor is explicitly prevented by art 122. cf also Schwenzer, Obligationenrecht (above n340) para 77.05; Killias in Amstutz, Marc et al (eds), Handkommentar zum Schweizer Privatrecht (Zurich: Schulthess, 2007) art 122 CO para 4 et seq. 352 Peter in Honsell, Heinrich, Vogt, Nedim Peter and Wiegand, Wolfgang (eds), Basler Kommentar, Obligationenrecht I, Art 1–529 OR, 4th edn (Basel: Helbing & Lichtenhahn, 2007) art 120 para 6; Gauch, Schluep, Schmid and Emmenegger, Obligationenrecht (above n340) para 3261. 353 Article 169(2) Code of Obligations. 354 cf art 110 No 1 Code of Obligations: ‘Insofar as a third person satisfies an obligee, the rights of the latter pass to it by law: (1) if it redeems an object pledged for the debt of another person, and the object pledged is its own property, or is an object as to which it has a limited right in rem, [ . . .]’. 355 cf Peter in Honsell, Vogt and Wiegand (eds) (above n352) art 120 para 9; von Tuhr and Escher, Obligationenrecht (above n340) 193 et seq; Schwenzer, Obligationenrecht (above n340) para 77.07;

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Money Debts Article 120(1) Code of Obligations requires that the claim and the cross-claim refer to either ‘sums of money or other obligations of the same kind’. Unlike German law, money debts expressed in different currencies are generally considered to be ‘similar obligations’ within the meaning of Article 120(1) Code of Obligations. The reason for expressing them in a certain currency is, according to the Federal Tribunal, to describe the value of the money debt. Money debts are, thus, obligations to procure a certain value, provided that an exchange rate exists. The currency in which the debt is expressed is seen as a mere measurement, a standard of value (‘Wertmesser’), and monetary obligations are regarded as always to be ‘of the same kind’ because money is supposed to be a universal economic term which fulfils the same function everywhere.356 Basically, the Federal Tribunal’s view has been followed by a majority in literature.357 There is, however, one point where literature deviates from the Federal Tribunal’s position as expressed in the said leading case. The Tribunal held that the question of whether the obligations are similar does not at all arise with respect to money debts. This could be derived from the wording of Article 120(1), where the attribute ‘of the same kind’ would only refer to ‘other obligations’, but not to ‘sums of money’.358 Since currency was regarded as a mere ‘value pillar’, it was always possible to set off money debts against each other, even where the parties had agreed on a clause stating that one or both money debts were to be paid in that precise currency stated in the contract (so-called ‘real contra von Büren, Bruno von, Schweizerisches Obligationenrecht (Zurich: Schulthess, 1964−1972), 479; similarly critical Aepli in Gauch, Peter (ed), Kommentar zum Schweizerischen Zivilgesetzbuch, Vol V, Obligationenrecht, 3rd edn (Zurich: Schulthess, 1991) art 120 para 129 et seq. 356 Decision of the Swiss Federal Tribunal, 26 October 1937, DTF 63 II 383, 394. The Federal Tribunal obviously based its decision on an article by Böckli written in 1927 (in: 23 SJZ (1927) 225), where the author anticipates most of the Tribunal’s reasoning. 357 Brinckmann, Rainer, Die nichtvertragliche Verrechnung in rechtsvergleichender Darstellung und im schweizerischen Kollisionsrecht (Geneva: Doctoral Thesis, 1970) 99; Graf, Werner, Die Verrechnung im internationalen Privatrecht (Zurich: Doctoral Thesis, 1951) 14 et seq; Keller and Girsberger in Girsberger, Daniel, Heini, Anton, Keller, Max, Kren Kostkiewicz, Jolanta, Siehr, Kurt, Vischer, Frank and Volken Paul (eds), Zürcher Kommentar zum IPRG, 2nd edn (Zurich: Schulthess, 2004) art 148 para 44; Bucher, Eugen, Schweizerisches Obligationenrecht. Allgemeiner Teil ohne Deliktsrecht, 2nd edn (Zurich: Schulthess, 1988) 382; Wild, Peter E, Die Verrechnung im internationalen Privatrecht—unter besonderer Berücksichtigung der schweizerischen und der US-amerikanischen Rechtsordnung (St Gallen: Dike Verlag, 1992) 47; Aepli in Gauch (ed) (above n355) art 120 para 69; Jeandin in Thévenoz, Luc and Werro, Franz (eds), Commentaire romand, Code des obligations I (Basel: Helbing & Lichtenhahn, 2003) art 120 para 15; Engel, Obligations (above n340) 672 et seq; contra von Tuhr and Escher, Obligationenrecht (above n340) 194 et seq; Huguenin, Claire, Obligationenrecht Allgemeiner Teil, 3rd edn (Zurich: Schulthess, 2008) para 865; Berger, Bernhard, Allgemeines Schuldrecht (Berne: Staempfli Publishers, 2008) 1371; Koller, Alfred, ‘Die Verrechnung nach schweizerischem Recht’, 3 recht (2007) 101, 106, who hold the strict view that money debts expressed in different currencies lack the required similarity; they should only be capable of being set off if the money debt expressed in a foreign currency can be extinguished in the domestic currency, art 84(2) CO. 358 Decision of the Swiss Federal Tribunal, 26 October 1937, DFT 63 II 383, 391 et seq; see also Böckli, Alfred, ‘Über die Kompensation von Forderungen verschiedener Währung’ 23 Schweizerische Juristen-Zeitung (1927) 225, 228.

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wage clause’, ‘Effektivklausel’). However, according to the prevailing view in literature, money debts expressed in different currencies should not be regarded as ‘similar’ where the parties have included a real wage clause (Effektivklausel) in their contract requiring one or both of the money debts to be paid precisely in the currency stated in the contract.359 A minority, however, has followed the Federal Tribunal and holds the view that even money debts including a real wage clause were capable of being set off. The only situation where set-off was precluded would be where specific coins were owed. In such a case, the obligation would no longer be one to pay a certain amount of money; rather, it would consist of delivering certain coins, which was to be compared to an obligation to procure certain goods.360 The position taken in recent case law is somewhat ambiguous. In principle, the majority in literature is followed; however, the court would usually hesitate to find that the parties had, in fact, agreed on a real wage clause.361 Other Obligations Obligations other than money debts may be similar if they refer to the same generic goods, such as oil, wheat, bricks, etc.362 Obligations involving specific or identified goods (Stückschuld) are not similar to any other obligation, which renders set-off of such kind of obligations impossible.363 c Validity, Maturity, and Enforceability of Cross-claim Contrary to the wording of Article 120 of the Code of Obligations, which requires that ‘both claims are due’, the Swiss Federal Tribunal has held already in

359 Aepli in Gauch (ed) (above n355) art 120 para 58, 72; Becker, Hermann, I ‘Abteilung, Allgemeine Bestimmungen, Art 1–183’ in Becker, Hermann (ed), Kommentar zum Schweizerischen Zivilgesetzbuch, Obligationenrecht, Vol VI (Berne: Staempfli Publishers, 1941) art 84 CO para 7; Peter in Honsell, Vogt and Wiegand (eds) (above n352) art 120 para 10; Jeandin in Thévenoz, Luc and Werro, Franz (eds), Commentaire romand, Code des obligations I (Basel: Helbing & Lichtenhahn, 2003) art 120 para 15; Killias in Amstutz et al (eds), art 120 CO para 6; Keller and Girsberger in Girsberger et al (eds), art 148 para 44; Schwenzer, Obligationenrecht (above n340) para 77.09. 360 This had already been argued by Böckli 23 SJZ (1927) (above n358) 225, 229 (‘Set-off is, of course, impossible if the wage clause should actually create a specific obligation (Speziesschuld). But—as I dare observe as a lawyer involved in business—this is never the case (at least I have not learned of a single case in perennial banking law practice where the wage clause really should have created a specific obligation). With money debts, the question of paying them in this or the other currency does virtually never become relevant; it always is only a question of value, at least as long as not very specific coins can be claimed for, which are no longer money within the literal sense but coins which have lost their “money character” and have become goods. […]’). This view has later been shared by, eg, Burkhalter Kaimakliotis, Sabine, Verrechnung von Fremdwährungsverbindlichkeiten (Zurich: Doctoral Thesis, 2006) 136; Brinckmann, Verrechnung (above n357) 102 et seq; Wild, Verrechnung (above n357) 47. 361 cf, eg, decision of the Swiss Federal Tribunal, 2 March 2004, BGE 130 III 312, 319. 362 Peter in Honsell, Vogt and Wiegand (eds) (above n352) art 120 para 11. 363 ibid; Gauch, Schluep, Schmid and Emmenegger, Obligationenrecht (above n340) para 3404; Aepli in Gauch (ed) (above n355) art 120 para 77.

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early days that this requirement applies to the cross-claim only.364 The literature has unanimously followed it.365 As is usually stated, the cross-claim must be enforceable, which requires that the cross-claim be admissible for legal action, mature, and free from any (other) objections.366 As to the main claim, it is sufficient if it is capable of being performed.367 Thus, although the wording of Article 120 Code of Obligations, by requiring enforceability of both the main claim and the cross-claim, resembles French set-off law, in practice, Swiss set-off law approximates German law. There are two exceptions to the requirement that the cross-claim be enforceable. First, set-off is allowed even where a cross-claim was time-barred at the time of the set-off declaration, provided that it was not prescribed at the time at which it became eligible for set-off.368 This exception corresponds to paragraph 215 of the BGB.369 Second, where the creditor of the main claim has become bankrupt, the debtor may declare set-off with a cross-claim even if the latter has not become due yet.370 This right to set-off is subject to the provisions of the Federal Statute on Debt Enforcement and Bankruptcy of 11 April 1889.371

364 Decision of the Swiss Federal Tribunal, 30 April 1898, DFT 24 II 358, 366 (‘[T]he claimant has proven the existence of a […] cross-claim which she wants to set off against Hämmerli’s salary claim; that this cross-claim is due has been established […], and the fact that Hämmerli’s claim for salary would become due only at a later stage, of course, cannot change anything in that the set-off is admissible’). Since then, see, eg, decision of the Swiss Federal Tribunal, 14 November 2003, 4C.164/2003, cons 2.1. 365 Von Tuhr and Escher, Obligationenrecht (above n340) 195 et seq; Gauch, Schluep, Schmid and Emmenegger, Obligationenrecht (above n340) para 3227; Engel, Obligations (above n340) 673; Graf, Verrechnung (above n357) 18; Guhl, Theo, Merz, Hans and Koller, Alfred, Das schweizerische Obligationenrecht mit Einschluss des Handels- und Wertpapierrechts, 9th edn (Zurich: Schulthess, 2000) 300; Berger, Schuldrecht (above n357) para 1381; Aepli, ‘Ausgewählte Fragen zur Verrechnung’ 1 Baurecht (1990) 3, 5; Aepli in Gauch (ed) (above n355) art 120 paras 13, 81, 93; Jeandin in Thévenoz and Werro (eds) (above n357) art 120 para 11; Koller 3 recht (2007) (above n357) 101, 104; Peter in Honsell, Vogt and Wiegand (eds) (above n352) art 120 para 4; Furrer, Andreas and Müller-Chen, Markus, Obligationenrecht Allgemeiner Teil (Zurich: Schulthess, 2008) 587; Huguenin, Obligationenrecht (above n357) para 855; Wild, Verrechnung (above n357) 49; Zimmerli, Christoph, Die Verrechnung im Zivilprozess und in der Schiedsgerichtsbarkeit. Unter besonderer Berücksichtigung internationaler Verhältnisse (Basel etc: Helbing & Lichtenhahn, 2003) 28; Jauch, Heidi Kerstin, Aufrechnung und Verrechnung in der Schiedsgerichtsbarkeit. Eine rechtsvergleichende Studie Deutschland / Schweiz (Berne: Doctoral Thesis, 2001) 50 et seq; Killias in Amstutz et al (eds) (above n351) art 120 CO para 7. 366 See Schwenzer, Obligationenrecht (above n340) para 77.12; von Tuhr and Escher, Obligationenrecht (above n340) 196. 367 Schwenzer, Obligationenrecht (above n340) para 77.17; Pichonnaz, La compensation (above n49) para 2048 et seq; Aepli in Gauch (ed) (above n355) art 120 para 93 et seq. 368 Article 120(3) CO: ‘A time-barred claim can be brought to set-off if, at the time it could have been set off against the other claim, it had not yet been prescribed.’ 369 Similarly to what has been stated under German law, there is Swiss authority denying that art 120(3) is the result of the ex-tunc-effect of set-off; rather the provision is held to be based on equity considerations, see, eg, Aepli in Gauch (ed) (above n355) art 120 para 157. Apparently contra, eg, Büren, Bruno von, Schweizerisches Obligationenrecht (Zurich: Schulthess, 1964–1972) 484. 370 Article 123(1) CO. For an illustration see decision of the Swiss Federal Tribunal, 10 January 2006, DFT 132 III 342; see also decision of the Swiss Federal Tribunal, 19 March 1981, DFT 107 III 25, 27. 371 See art 123(2) CO.

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Obstacles to Set-off

As a principle, the parties may agree that they waive their right to set off with a cross-claim.372 The possibility of doing so is excluded in certain situations, such as in tenancy and hire agreements.373 Apart from that, Article 125 lists several situations in which set-off is excluded—though the provision is not mandatory.374 First, set-off is prohibited where the debtor’s obligation consists of returning or replacing deposited, misappropriated, or maliciously withheld things (Article 125 No 1).375 Further, set-off cannot take place where actual performance of the debtor’s obligation is required, like claims to maintenance or salary, which are absolutely necessary for the creditor’s (and his family’s) daily living (Article 125 No 2).376 Finally, no set-off is possible with regard to obligations based on public law and those owed to the community (Article 125 No 3).377 Article 125 Code of Obligations is a mixture of the respective provisions in the German and French law. Similarly to Article 1293 No 1 French Code Civil, Article 125 No 1 Swiss Code of Obligations excludes a set-off where the primary claim consists of an ‘obligation[n] to restore or to replace items of chattel deposited or dispossessed illegally, or withheld in bad faith’.378 The provision has not acquired great importance. Bucher379 is right when stating that, with regard to Article 125 No 1 CO, there will hardly ever be a cross-claim which will fulfil the requirement of similarity. The futility of this provision is shown when considering that the draft to Article 125 No 1 CO referred to the claim for restitution of the value of tortiously obtained goods and was later erroneously changed into its definite shape.380 The exclusion of set-off in Article 125 No 2 Code of Obligations is comparable to both the Code Civil and the BGB. Article 125 No 3 Code of Obligations, finally, is similar to paragraph 395 BGB. e Not Required: Ascertainment and Connectivity of Claims The Swiss Code of Obligations does not require that the primary claim and the cross-claim be liquidated or connected to each other.381 Article 120(2) expressly 372 373 374 375

Article 126 CO: ‘The debtor may waive his right of set-off in advance.’ See arts 265, 294 CO. cf the ingress of art 125: ‘Against the creditor’s will, set-off cannot extinguish obligations […]’. For an illustration see decision of the Swiss Federal Tribunal, 26 November 1985, DFT 111 II

447. 376

For details see von Tuhr and Escher, Obligationenrecht (above n340) 200 et seq. Details with Becker (above n359) art 125 para 13; Aepli in Gauch (ed) (above n355) art 125 para 96 et seq. 378 Article 125 No 1 CO. 379 Bucher, Eugen, ‘Kompensation im Prozess: Zurück zum materiellen Recht’ in Schütze, Rolf A (ed), Einheit und Vielfalt des Rechts, Festschrift für Reinhold Geimer zum 65. Geburtstag (Munich: CH Beck, 2002) 97, 116. 380 ibid. 381 See Aepli in Gauch (ed) (above n355) art 120 para 99; Jeandin in Thévenoz and Werro (eds) (above n357) art 120 para 16; Engel, Obligations (above n340) 674. 377

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states that liquidity of the claims may lack (. . . author please complete sentence as requested on copy edited files).382 The requirements of liquidity and connectivity are not imposed by procedural law either.383 Procedural law having, for a large part, been in the domain of cantonal law, the inability of procedural law to impose further requirements where the subject matter was governed by substantive law was explained by the fact that federal law takes precedence over cantonal law.384 Accordingly, the Federal Tribunal stated as early as 1937 that procedural law could not exacerbate the right to set-off. Cantonal procedural law could not require, for example, that the claims must arise out of the same relationship, that the venue of the cross-claim must be the same as the venue of the main claim, or that the cross-claim’s amount must not exceed the amount of the main claim.385 Thus, since liquidity and connectivity are not requirements under the Code of Obligations, they cannot be imposed by procedural law either. Nothing will change with regard to the fact that liquidity and connectivity are not set-off requirements when a unified Swiss Civil Procedure Act enters into force on 1 January 2011.386 In the new Act, set-off is only dealt with in connection with jurisdictional matters regarding domestic arbitration.387 As, other than that, the Act is silent on set-off, there will no new requirements imposed on exercising the defence of set-off in court. Swiss set-off law differs from German and French law in this respect. In France, liquidity is a requirement of substantive law (Article 1291(1) Code Civil). Additionally, according to Article 70 of the Nouveau Code de Procédure Civile, the court may reject an unconnected cross-claim where its adjudication may cause excessive delay of the whole case.388 In Germany, paragraph 302(1) of the ZPO entitles the court to ignore the cross-claim if it is not ripe for decision. Furthermore, paragraph 145(3) of the ZPO grants the court discretion as to whether to hear the set-off defence or not if the cross-claim has no legal connection to the subject matter of the action.389 By not leaving any judicial discretion for the adjudication of a set-off defence, Swiss law is considerably more set-off friendly than the other two jurisdictions.

382

Article 120(2) CO: ‘The debtor may assert set-off even if its cross-claim is being disputed.’ See decision of the Swiss Federal Tribunal, 26 October 1937, DTF 63 II 383, 387. 384 Article 49(1) Federal Constitution. See also Koller, 3 recht (2007) (above n357) 101, 103. 385 Decision of the Swiss Federal Tribunal, 17 March 1937, DTF 63 II 133, 139 et seq; decision of the Swiss Federal Tribunal, 5 May 1959, DFT 85 II 103, 106. 386 See media communication of the Ministery of Justice of 8 July 2008, (30 January 2010). The Swiss Civil Procedure Act is the last step in the unification process of procedural law in the Swiss cantons. Part of the unification was achieved by the Federal Law on Jurisdiction in Civil Procedure (Gerichtsstandsgesetz) of 24 March 2000, Systematische Rechtssammlung 272, which will be integrated in the new Civil Procedure Code. 387 Article 377 of the Code of Civil Procedure (entering into force on 1 January 2011). 388 See above at 54−55. 389 See above at 77−78. 383

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iv Retroactive Effect of Set-off Once set-off has been declared, the primary claim and the cross-claim are deemed to have been extinguished pro tanto at the time they first countered each other.390 Swiss law thus follows the German approach by attributing retroactive effect to set-off. The practical consequences of this retroactive effect are that, if, prior to the set-off declaration, one of the parties was deemed to be in arrears with its performance during the time set-off was theoretically possible, all consequences of its default cease to exist retroactively, such as default interest, default damages, or penalty clauses.391 Any amounts of interest paid up to the date of declaration of set-off can be reclaimed via condictio indebiti.392 It must be noted, however, that the retroactive effect of set-off has been criticised in recent times.393 We will deal with the arguments in favour and against retroactive set-off in detail when discussing uniform international sets of rules.394

D Summary of German and Swiss Law of Set-off A verbatim comparison of the German and the Swiss law of set-off suggests that the two laws are quite similar. Both provide for set-off as a self-help remedy. Set-off can be exercised by way of a unilateral, informal declaration. The requirements of set-off also read similarly: reciprocity and similarity of the claims are required by both jurisdictions. Likewise, both the BGB and the Code of Obligations do not require liquidity or connectivity of the claims. Finally, by providing for retroactivity of set-off, the effect of set-off is the same in both codifications as well. A minor difference can be found with regard to the enforceability of the claims. While the wording of the Swiss Code of Obligations requires that both claims be due, the German BGB is more precise and requires enforceability of the cross-claim only. However, the difference in wording has been overcome by Swiss legal practice. Ever since, Article 120 of the Code of Obligations has been interpreted as to require the enforceability of the crossclaim only.

390

Article 124(2) CO. von Tuhr and Escher, Obligationenrecht (above n340) 207 et seq; Schwenzer, Obligationenrecht (above n340) para 78.05; Engel, Obligations (above n340) 677; Koller, 3 recht (2007) (above n357) 101, 104, 109 et seq; Killias in Amstutz et al (eds) (above n351) art 124 CO para 15. 392 Von Tuhr and Escher, Obligationenrecht (above n340) 207; Jeandin in Thévenoz and Werro (eds) (above n357) art 124 para 7. 393 cf Aepli, 1 Baurecht (1990) (above n364) 3, 7; Pichonnaz, La compensation (above n49) para 2121 et seq; Pichonnaz, Pascal, ‘Einige Gedanken zur Rückwirkung der Verrechnung’ in Geiser, Thomas et al (eds) Privatrecht im Spannungsfeld zwischen gesellschaftlichem Wandel und ethischer Verantwortung, Festschrift für Heinz Hausheer zum 65. Geburtstag (Berne: Staempfli Publishers, 2002) 69 et seq; cf also Peter in Honsell, Vogt and Wiegand (eds) (above n352) art 124 para 6, whose criticism is, however, more cautious (‘[retroactive effect] difficult to justify’). 394 Below at 211−13. 391

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Not perfectly similar—though comparable—are the provisions dealing with the exclusion of set-off. In particular, influences of the French Code Civil on Article 125 No 1 Code of Obligations are noticeable. This provision excludes set-off against a primary claim for restitution of things or goods, as does Article 1293 No 1 of the Code Civil. But only in the manner in which paragraph 393 of the BGB has settled the question, namely by excluding set-off where the primary claim is for restitution for the value of goods of which the creditor was unduly deprived, can the disqualification of set-off obtain practical significance. However, one would be ill-advised to conclude that the German and the Swiss law of set-off are virtually the same. Through the back door of procedural law, liquidity and connectivity are brought into play in Germany, whereas in Switzerland, an early decision of the Federal Tribunal has made it clear that procedural law cannot impose liquidity or connectivity on set-off. This difference matters not only when dealing with a set-off under German law. The fact that German law of set-off is incomplete if paragraphs 145(3), 302(1) ZPO were not considered is significant on the level of conflict of laws: if German law were to apply to an international set-off, the question emerges of whether the liquidity and connectivity criteria must be taken into account.395 Caution is also advised where the wording of the German and the Swiss law of set-off is alike. The question of whether the claims are reciprocal requires a detailed investigation of domestic law areas such as agency, company law, etc. These topics can differ considerably in German and Swiss law. Furthermore, claims expressed in different currencies are considered ‘similar’ in Swiss law, whereas in German law they will only fulfil the requirement of similarity if paragraph 244 BGB is met. Finally, one must also be careful with regard to retroactivity of set-off. The majority in German law is opposed to granting the debtor a claim for unjust enrichment (condictio indebiti) to get back what it paid unaware of the fact that it could have declared set-off. Under Swiss law, although the wording of the law is clear, the opposite view tends to prevail in scholarly writing, which makes it difficult to predict future case law.

E Set-off in Austria i Introduction It has been mentioned that the Austrian Allgemeines Bürgerliches Gesetzbuch (ABGB) of 1811 embraced the ipso iure-doctrine prevailing among Roman law scholars at that time. Thus, it differs—at least theoretically—from the German and Swiss approach.

395

See below at 171−72.

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ii Set-off ipso iure? Taken verbatim, paragraph 1438 of the ABGB implies an automatic extinction396 of countervailing claims as long as they are valid, enforceable, similar and reciprocal.397 However, case law and literature have long since398 taken the approach that a set-off does not occur if it has not been declared.399 This situation resembles the French position, where despite the wording of Article 1290 Code Civil set-off will not be assumed to have taken place unless asserted by one of the parties. The vast majority of Austrian literature does not require a judicial assertion of set-off, unlike under French law. An informal, extra-judicial declaration suffices,400 albeit that there are some voices to the contrary.401 As with all jurisdictions following the declaration model, the Austrian law of set-off has to deal with the case that the set-off is only declared in court. This is in principle possible although the effect of such judicially declared set-off is

396 That set-off operated ipso iure was the strong conviction of Franz von Zeiller, the main drafter of the ABGB: ‘The effect of a legal set-off is the same as the effect of correct payment; it extinguishes […] the primary claim—in fact, of itself—by virtue of the law (ipso iure), without making a preliminary declaration of the compensating debtor or consent or even knowledge of the creditor necessary.’ (Zeiller, Franz Edlen von, Commentar über das allgemeine bürgerliche Gesetzbuch für die gesamten Deutschen Erbländer der Oesterreichischen Monarchie, Vol IV (Vienna, Trieste, 1813) para 1438 ABGB para 5). 397 Paragraph 1438 ABGB: ‘If claims concur that are right, similar, and of such a kind that the thing which is owed to one party as a creditor can also be given to by him as a debtor to the other party; that way, the obligations are concurrently extinguished (compensation), which in itself effectuates payment.’ (‘Wenn Forderungen gegenseitig zusammentreffen, die richtig, gleichartig und so beschaffen sind, das seine Sache, die dem Einen als Gläubiger gebührt, von diesem auch als Schuldner dem Andern entrichtet werden kann; so entsteht, in so weit die Forderungen sich gegen einander ausgleichen, eine gegenseitige Aufhebung der Verbindlichkeiten (Compensation), welche schon für sich die gegenseitige Zahlung bewirket.’) 398 See the references in Ehrenzweig, Armin, System des österreichischen allgemeinen Privatrechts, Vol II/1: Das Recht der Schuldverhältnisse, 2nd edn (Vienna: Manz, 1928) 341. 399 Rummel in Rummel, Peter (ed), Kommentar zum Allgemeinen bürgerlichen Gesetzbuch, 3rd edn (Vienna: Manz, 2007) para 1438 ABGB para 11; Koziol, Helmut and Welser, Rudolf, Grundriss des bürgerlichen Rechts, Vol II, 13th edn (Vienna: Manz, 2007) 103 and 105; Griss in Koziol, Helmut, Bydlinski, Peter and Bollenberger, Raimund (eds), Kurzkommentar zum ABGB, 2nd edn (Vienna and New York: Springer, 2007) para 1438 ABGB para 3; Heidinger in Schwimann, Michael (ed), Praxiskommentar zum Allgemeinen Bürgerlichen Gesetzbuch, 3rd edn (Vienna: Verlag Orac, 2006) para 1438 ABGB para 10 et seq; Dullinger, Silvia, Bürgerliches Recht Band II: Schuldrecht Allgemeiner Teil, 3rd edn (Vienna/New York: Springer, 2008) para 4/30; Dullinger, Aufrechnung (above n230) 96, with further references. 400 See Dullinger, Aufrechnung (above n230) 97 et seq, providing also a historical survey; Heidinger in Schwimann (above n399) para 1438 ABGB para 10 et seq; Koziol, Helmut and Welser, Rudolf, Grundriss des bürgerlichen Rechts, Vol II, 13th edn (Vienna: Manz, 2007) 103; Rummel in Rummel (above n399) para 1438 ABGB para 12, with further references. 401 See Ehrenzweig, II/1: Schuldverhältnisse (above n398) 341 et seq, who has always required a judicial assertion and herewith represented a hard line, even in his time (early twentieth century). Italian set-off by law seems to stand in-between: ipso iure-operation being the initial point, authority is unanimous in requiring an assertion of set-off, but is divided on whether this must be done in or outside court proceedings, see above at 60−61.

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disputed. Pursuant to the civilian theory, which has won favour in literature,402 the claims are extinguished at the same time as if set-off were asserted extrajudicially (whereas it is disputed whether this will be ex tunc or ex nunc). According to the procedural theory, which dominates the case law,403 claims continue to exist until the date of judgment.

iii Requirements a

General Overview

Like the other legal systems analysed so far, Austrian law requires reciprocity and similarity of the primary claim and the cross-claim. The questions arising in this context are nearly identical to those in the German, Swiss, and French laws of set-off: whether the creditor of the main claim is indeed the debtor of the cross-claim and vice versa must always be answered according to the applicable rules. That is, company law, trust law, assignments provisions, etc must be drawn on.404 As to the requirement of similarity of obligations, like the German, Swiss, and French legislation, Austrian law allows the set-off of other than money claims.405 The question of whether money debts expressed in different currencies are similar obligations within the meaning of paragraphs 1438, 1440 ABGB has been subject to controversies in Austria too. The situation is quite comparable to that in German law. Austrian law contains a provision corresponding to paragraph 244 of the German BGB.406 According to that provision, if the debt is expressed in a foreign currency and is to be fulfilled in Austria, the debtor is entitled to pay in inland currency, that is, in Euro. Case law consistently holds that only if payment is to be made inland are money debts expressed in different currencies similar within the meaning of paragraphs 1438, 1440 ABGB.407 In contrast, modern literature seems to have adopted a view similar to that in Switzerland, namely that foreign currency money claims are generally to be

402 Dullinger, Aufrechnung (above n230) 191 et seq; Heidinger in Schwimann (above n399) para 1438 ABGB para 29. 403 cf, eg, decision of the OGH, 19 March 1998, RdW (1998) 739; decision of the OGH, 12 February 2002, JBl (2002) 717, 720. 404 cf, eg, the examples in Griss in Koziol, Bydlinski and Bollenberger (above n399) para 1441 ABGB para 1 et seq; cf also paras 1442–44 ABGB. 405 Paragraph 1440 ABGB explicitly refers to ‘claims the subject matter of which are unlike/ disparate or specific and unspecific things’, thereby implying that also other than money claims are capable of being set off. Von Zeiller’s commentary of 1813 did not even mention money debts, cf Commentar (above n396) para 1438 ABGB, para 4. 406 Article 8 n° 8 para 1 EVHGB, which is also applied to non-commercial contracts by analogy, see, eg, Heidinger in Schwimann (above n399) para 1440 ABGB para 2. 407 See, pars pro toto, the recent decision of the OGH, 22 October 2001, RdW (2002) 276, 277.

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regarded as ‘similar obligations’.408 The exact dogmatic explanation for such interpretation differs.409 Further uncertainty is added by other authors who adhere to the strict position taken in case law.410 Furthermore, since fulfilment of the cross-claim is quasi self-executed,411 the cross-claim must be valid, mature and enforceable, whereas the main claim need only be capable of being performed.412 These requirements are usually taken from the requirement mentioned in paragraph 1438 ABGB that the claims be ‘right’ (‘richtig’).413 The criterion of ‘rightness’ has, in fact, remained unclear. Some regard it as including the further requirement that the claims be ascertained (the discussion will be resumed below at b). Finally, set-off must not be excluded either by the law or by the parties’ agreement.414 The ABGB contains exclusions to the right to set-off where the primary claim sounds in repossession of goods of which the creditor has been deprived or which it gave away under the influence of malicious cunning.415 This provision resembles Article 125 No 1 of the Swiss Code of Obligations. It is similarly of little practical importance, as, in such a situation, the requirement of similarity of claims will hardly ever be fulfilled. Furthermore, set-off is usually prohibited where the primary claim is unseizable.416 The parties may, in principle, provide for a contractual exclusion of the right of set-off. However, such set-off exclusion by agreement may not be upheld by the courts if the parties had unequal bargaining power, even if both parties were acting in their capacity as professionals or merchants.417 408 See, eg, Rummel in Rummel (above n399) para 1440 ABGB para 2; Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1440 ABGB para 1; Heidinger in Schwimann (above n399) para 1440 ABGB para 2; Kerschner, Ferdinand, ‘Zur Aufrechnung bei Zession künftiger Forderungen’ Österreichisches Bank-Archiv (1989) 255 et seq. 409 For an overview see Dullinger, Aufrechnung (above n230) 79. 410 Dullinger, Aufrechnung (above n230) 79 et seq; Seiler, Norbert, ‘Zur Kompensation beim Fremdwährungsgeschäft’ Österreichisches Bank-Archiv (1987) 615, 618 et seq. 411 Ehrenzweig, II/1: Schuldverhältnisse (above n398) 333. 412 Paragraphs 1438, 1439 ABGB; for details see Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1439 ABGB para 1; Heidinger in Schwimann (above n399) para 1440 ABGB para 5 et seq. 413 See Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1439 ABGB para 2; Koziol and Welser (above n399) 103 and 105: the requirement that the claims be ‘right’ (see first half-sentence of para 1438 ABGB) also includes the requirement that they be enforceable. 414 Paragraph 1440 ABGB: ‘Likewise, obligations which consist in dissimilar, or in certain and uncertain, duties cannot be set off against each other. Pieces that have been divested, borrowed, deposited or seized arbitrarily/without authority or cunningly are subject neither to a right of retention nor to a right of set-off.’ (‘Ebenso lassen sich Forderungen, welche ungleichartige oder bestimmte und unbestimmte Sachen zum Gegenstande haben, gegeneinander nicht aufheben. Eigenmächtig oder listig entzogene, entlehnte, in Verwahrung oder in Bestand genommene Stücke sind überhaupt kein Gegenstand der Zurückbehaltung oder der Kompensation.’) For details see Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1440 ABGB para 2 et seq; Ehrenzweig, II/1: Schuldverhältnisse (above n398) 336 et seq. 415 See para 1440 ABGB, second sentence. 416 See para 293(2), (3) of the Exekutionsordnung. 417 The invalidity of a waiver clause is based on an analogous application of para 6(1) No 8 of the Konsumentenschutzgesetz, which, in certain constellations, forbids the exclusion of the right of set-off in consumer contracts. For details see Dullinger, Schuldrecht AT (above n399) para 4/38; Heidinger in Schwimann (above n399) para 1440 para 24, with further references.

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Set-off in a Comparative Survey In Particular: Ascertainment of Cross-claim Required?

The question of whether the claims have to be liquidated in order to be capable of being set off has caused considerable concern in Austria. The preliminary drafts of the ABGB required without exception a liquidated cross-claim.418 This was in contrast to the traditional dogmatic view which was strongly influenced by Roman law and which had always regarded liquidity as a matter of procedural law.419 Consequently, the liquidity requirement was eliminated in the final version of the ABGB. Nonetheless, liquidity was handled as an unwritten court’s tool with which the court exercised discretion in whether it would hear a cross-claim or not. If the defendant asserted set-off in court, the judge was obliged by way of substantive law to allow such objection. However, it had the right not to hear cross-claims which were difficult to prove.420 Partially, this judicial discretion has been linked to the requirement in paragraph 1438 ABGB that the claims be ‘right’.421 Those who hold that ‘right’ within the meaning of paragraph 1438 ABGB does not include ‘liquidated’ seem to be in the majority,422 but this has been seen differently in international arbitration awards.423 The leeway granted to the Austrian judge in early days was later embodied in paragraph 391(3) of the Austrian Civil Procedure Act, which reads: ‘[i]f the respondent has made an objection of set-off which has no connection with the subject matter of the [main] claim, it is possible to render a partial judgment if only the trial regarding the main claim is ripe for decision. The trial regarding the cross-claim is to be continued without interruption.’424 Three points must be observed. (a) Paragraph 391(3) of the Civil Procedure Act is only concerned with set-off declared in judicial proceedings. This encompasses the situation where set-off is first-time declared in court as well as where it is asserted as a fact.425 However, liquidity and connectivity do not matter for the ‘normal case’, which is the exercise of the right of set-off outside court proceedings. (b) Liquidity becomes significant only if the claim and the cross-claim are not connected with each other. (c) Liquidity is not actually required. All paragraph 391(3) of the

418

See Dullinger, Aufrechnung (above n230) 87 et seq. Above at 34. 420 Dullinger, Aufrechnung (above n230) 89. 421 See the references in Ehrenzweig, II/1: Schuldverhältnisse (above n399) 335; Heidinger in Schwimann (above n399) para 1439 ABGB para 7. 422 See Heidinger in Schwimann (above n399) para 1439 ABGB para 7, with further references; Dullinger, Schuldrecht AT (above n399) para 4/28; this view which later became the majority view was held by Ehrenzweig, II/1: Schuldverhältnisse (above n399) 335, as long ago as 1928. 423 Final Award in ICC Case No 5971, Bull ASA (1995) 728. The case is discussed below at 188−89. 424 See para 391(3) Austrian Civil Procedure Act of 1914: ‚‘Hat der Beklagte mittels Einrede eine Gegenforderung geltend gemacht, welche mit der in der Klage geltend gemachten Forderung nicht im rechtlichen Zusammenhange steht, so kann, wenn nur die Verhandlung über den Klagsanspruch zur Entscheidung reif ist, über denselben durch Theilurtheil erkannt werden. Die Verhandlung über die Gegenforderung ist ohne Unterbrechung fortzusetzen.’ 425 Heidinger in Schwimann (above n399) para 1439 ABGB para 8. 419

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Austrian Civil Procedure Act states is that, in state court proceedings, the judge is free either to deal with an unliquidated cross-claim or to defer its assessment to a later stage.426 To a certain extent, the Austrian position resembles the German law of set-off, which also deals with liquidity in its procedural law. Unlike paragraph 391(3) of the Austrian Civil Procedure Act, however, paragraph 302(1) of the German ZPO has disengaged liquidity from connectivity.427 In Germany, connectivity is no longer a ‘saver’ of an unliquidated cross-claim. Comparing with French law, the latter not only chooses liquidity as an actual requirement of substantive law: it does so for both claim and cross-claim, thus widening the scope of judicial discretion considerably.428 In Switzerland, again, the decision DTF 63 II 133 of the Federal Tribunal has clarified that liquidity cannot be required by procedural law.429

iv Effect of Set-off Although the wording of the ABGB suggests that set-off takes place automatically, case law and literature hold virtually unanimously that set-off must be declared by one of the parties.430 The effect of such a declaration is, again, entirely within the spirit of an ‘ipso iure’-operation—at least if case law and the majority in literature is followed. Set-off is deemed to have occurred as at the date the claims were first-time eligible for set-off.431 More recent literature doubts the ex-tunc-effect of set-off. It is deemed unjust to have different effects when paying and when setting off, respectively, and it is argued that payment and set-off should be treated the same, attributing to both of them mere ex-nunc-effect.432

v Summary For foreigners, the Austrian law of set-off is difficult to penetrate. The wording of the ABGB is rather antiquated and cannot always be relied on. For example, 426 Dullinger, Aufrechnung (above n230) 91 et seq; Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1438 ABGB para 7 and para 1439 para 2; Rummel in Rummel (above n399) para 1439 ABGB para 6. 427 Above at 77−78. 428 Above at 54−55. 429 Above at 87−88. 430 See above at 91−92. 431 Ehrenzweig, II/1: Schuldverhältnisse (above n399) 342. For case law, see the references in Griss in Koziol, Bydlinski and Bollenberger (eds) (above n399) para 1438 ABGB para 4; Heidinger in Schwimann (above n399) para 1438 ABGB para 19. In earlier times, it was sometimes said that set-off does actually occur as early as of the debts’ coexistence, see, eg, Unger, Joseph, ‘Fragmente aus einem System des österreichischen Obligationenrechts’ 15 GrünhutsZ (1888) 529, 543 et seq. 432 Dullinger, Aufrechnung (above n230) 155 et seq; Dullinger in Rummel (above n399) para 1438 ABGB para 14; Dullinger, Schuldrecht AT (above n399) paras 4/41; Heidinger in Schwimann (above n399) para 1438 ABGB para 22; Bydlinski, Peter, ‘Die Aufrechnung: Verjährung, Rückwirkung und § 414 Abs 3 HGB’ Osterreichische Recht der Wirtschaft (1993) 238 et seq; Eypeltauer, Ernst, ‘Verjährung und Verrechnung’ Juristische Blätter (1991) 137, 145 et seq.

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set-off operates by way of declaration, against the clear wording in paragraph 1438 ABGB. This raises questions regarding the Prozessaufrechnung. Another illustration of the difficulties created under the ABGB is the word ‘right’ (‘richtig’) in paragraph 1438. Its interpretation varies; some hold that ‘right’ means ‘enforceable’. Paragraph 1438 ABGB would thus inter alia require that the claims be enforceable in order to be set off. Others understand ‘right’ to stand for ‘liquidated’, and accordingly read pragraph 1438 ABGB as stating that the primary claim and the cross-claim be liquidated. The first-mentioned interpretation, that is, that ‘right’ refers to ‘enforceable’ only and not to a liquidated nature of the claims, could have more merit, if one draws a parallel to the French Code Civil. There, the substantive law requirement that the claims be liquidated goes hand in hand with the ipso iure approach.433 The automatism of set-off requires that the claims are ascertained as to their existence or amount at the time of their extinction, that is, at the time they are eligible for set-off. If this rationale is applied to Austrian law, the fact that Austrian law deviated from the ipso iure concept might imply that ‘right’ in paragraph 1438 ABGB does not include ‘liquidated’, even if it could have meant it in the past. This interpretation would be supported by the fact that liquidity of the cross-claim is referred to in procedural law (paragraph 391(3) of the Austrian Civil Procedure Act). To require liquidity in substantive law and additionally grant liquidity as a discretionary tool in procedural law makes little sense. On the other hand, the fact that—similarly to the Austrian ABGB—the French Code Civil no longer adheres to the automatic operation of set-off has not led to any changes with regard to liquidity. The Code Civil still requires that both claims be liquidated, despite the fact that the ipso iure operation has been displaced by a judicial declaration434 and that requiring set-off to be declared in judicial proceedings would call for settling liquidity in procedural law. The French example shows that a law will not always be logical. Thus, the antiquated wording of ‘right’ will occupy every lawyer who deals with set-off under Austrian law, and it will have to undertake the laborious task of interpreting the meaning of this term. Another disputed issue is whether money claims expressed in different currencies are ‘similar’ within the meaning of paragraph 1438 ABGB. The effect of a set-off too is no longer clear-cut, as the position that set-off is dated back to the time the claims were first-time eligible for set-off has been seriously criticised in recent times.

433 434

Above at 45−47. Above at 45−46.

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F Jurisdictions with Similar Set-off Concepts The Greek Civil Code of 1940 (Αστικóς Κω ´ δικας) has settled the questions regarding set-off in a manner similar to the German BGB. Set-off operates via declaration435 and has retroactive effect.436 Against the clear wording of Article 440,437 which requires enforceability of both claims, it suffices if the cross-claim is enforceable; the primary claim must be merely performable.438 Unlike German law, the Greek Civil Code makes reference to the liquidated nature of the cross-claim, though the provision is procedural and resembles paragraph 302(1) of the German ZPO. Article 442 of the Greek Civil Code states that if the cross-claim can be proven promptly, set-off can be raised at any stage of the judicial proceedings.439 The liquidated nature of the claims is thus not a requirement, as in the French Code Civil. However, the court is advised to deal with the set-off defence if the cross-claim is liquidated. Further representatives of the self-help theory are the Scandinavian countries, Norway, Sweden, and Denmark. The Scandinavian laws do not require liquidity of the cross-claim and are thus in line with most other Germanic laws of set-off. However, contrary to the German model, a set-off declaration has no ex-tunceffect. It operates, in general, ex nunc.440 The Netherlands, another jurisdiction which has followed the declaration model, will be discussed separately.441

G Set-off by Agreement In all Germanic jurisdictions analysed here, set-off can also be effectuated by the parties’ agreement. Such set-off contract is not bound to the respective legal requirements.442 The contractual set-off must, however, be within the boundaries

435 Article 441(1): ‘Set-off is brought about by declaration by a party to the other party.’ (‘Ο συµψηφισµο´ ς eπe´ ρχeται αν ο e´ νας τον eπικαλeστeι´ µe δη´ λωση προς τον α´ λλο.’). 436 Article 441(2): ‘Declaration of set-off leads to the extinction of the countervailing claims as of the time of their co-existence.’ (‘Η προ´ ταση του συµψηφισµου´ eπιφe´ ρeι απο´ σβeση των αµοιβαι´ων απαιτη´ σeων απο´ το´ τe που συνυπη´ ρξαν.’). 437 Article 440: ‘Set-off leads to the extinction of reciprocal claims, as far as they cover each other, if the claims refer to obligations of a similar kind and if they are enforceable.’ (‘Ο συµψηφισµο´ ς eπιφe´ ρeι απο´ σβeση των µeταξυ´ δυ´ ο προσω ´ πων αµοιβαι´ων απαιτη´ σeων, ο´ σο καλυ´ πτονται, αν eι´ναι οµοeιδeι´ς κατα´ το αντικeι´µeνο και ληξιπρο´ θeσµeς.’). 438 Stathopoulos, Michael P, Γeνικο´ eνοχικο´ δι´καιο (General Law of Obligations) 1304; Kornilakis, Panos K, Ειδικο´ eνοχικο´ δι´καιο (Special Law of Obligations) (Athens/Thessaloniki: Sakkoulas, 2002). 439 Article 442: ‘Ο συµψηφισµο´ ς κατα´ eπι´δικης απαι´τησης, αν η ανταπαι´τηση αποδeικνυ´ eται αµe´ σως, προτeι´νeται σe κα´ θe στα´ ση της δι´κης, ακο´ µη και κατα´ την eκτe´ λeση.’ 440 See for details Lando, Ole, International Encyclopedia of Comparative Law, Chapter 24: Contracts, (Tübingen etc: JCB Mohr, 1976) para 222. 441 Below at 205−06. 442 See, eg, decision of the BGH, 27 March 1985, NJW (1985) 2409; von Tuhr and Escher, Obligationenrecht (above n340) 190; Dullinger, Schuldrecht AT (above n399) para 4/42.

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of the applicable law. Set-off agreements in standard terms, for example, are subject to the control mechanisms of the respective jurisdiction.443 Contractual set-off extinguishes both the primary claim and the cross-claim. However, the time such extinction takes place is disputed. The point in time at which a set-off takes effect can, of course, be settled in the set-off agreement. However, where the question has not been dealt with contractually, views differ. Some academics hold that the claims cease to exist as of the date of the conclusion of the set-off contract;444 other opine that the set-off agreement has retroactive effect.445 According to the latter position, the claims are extinguished as of the date the claims were first-time eligible for set-off, which can be considerably earlier than the time the set-off contract is concluded. The rationale of such retroactive effect is that the parties should not have any disadvantages when mutually agreeing on a set-off compared to the situation where set-off is declared unilaterally.446

H Counterclaim All Germanic jurisdictions analysed here provide a second mechanism for opposing countervailing claims, the so-called counterclaim. This instrument is purely procedural and is not subject to the set-off rules in the respective codifications. According to paragraph 33 of the German ZPO, a counterclaim may be raised if it is connected to the subject matter of the action or to the defences raised against it.447 If a counterclaim has been raised which has no connection to the subject matter of the action, a partial judgment may be rendered.448 In other words, a counterclaim connected to the main claim must be taken into account in the same proceedings, whereas an unconnected counterclaim need not, although the court is free to deal with it if it deems fit. Similarly, 443 See decision of the OLG Köln, 10 November 2004, NJW (2005) 1127, 1128 et seq; Esser and Schmidt (above n257) para 18 III 6 (306). 444 Dullinger, Aufrechnung (above n230) 262; Gernhuber, Erfüllung (above n242) 334. 445 See von Tuhr and Escher, Obligationenrecht (above n340) 209; Gursky in Staudinger (above n258) Vorbem zu para 387 ff BGB para 64. 446 See von Tuhr and Escher, Obligationenrecht (above n340) 209: the parties must have the right to effectuate contractually what each of them could effectuate without the other’s consent. See also Gursky in Staudinger (above n258) Vorbem zu para 387 ff BGB para 64. 447 Paragraph 33 German ZPO: ‘(1) A counterclaim can be raised before the court of the primary claim if the counterclaim is connected to the subject matter of the primary claim or to the defences raised against it. (‘(1) Bei dem Gericht der Klage kann eine Widerklage erhoben werden, wenn der Gegenanspruch mit dem in der Klage geltend gemachten Anspruch oder mit den gegen ihn vorgebrachten Verteidigungsmitteln in Zusammenhang steht.’). 448 Paragraph 145(1), (2) German ZPO: ‘(1) The court may order that several claims raised in the same action are dealt with separately. (2) The same holds true if the defendant has raised a counterclaim which has no legal connection with the subject matter of the action.’ (‘(1) Das Gericht kann anordnen, dass mehrere in einer Klage erhobene Ansprüche in getrennten Prozessen verhandelt werden. (2) Das Gleiche gilt, wenn der Beklagte eine Widerklage erhoben hat und der Gegenanspruch mit dem in der Klage geltend gemachten Anspruch nicht in rechtlichem Zusammenhang steht.’)

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the Austrian law allows for a counterclaim which is connected with the claim or could also be brought as a set-off.449 Swiss law goes in the same direction, although its respective provisions are slightly stricter. According to the Swiss Civil Procedure Act,450 which will enter into force on 1 January 2011,451 the defendant can raise a counterclaim in the court where the main claim is pending, if the counterclaim has a factual connection to the main claim.452 The same rule is presently stated in the Jurisdiction Act,453 which will be displaced by the future Civil Procedure Act.

I Summary The Germanic laws of set-off are clearly Roman-law inspired. The Austrian ABGB, as the oldest of the codifications considered in this chapter, adopted the ipso iure-operation of set-off, as it was read into the Corpus Iuris Civilis by Roman scholars of that time. Case law and literature have deviated from this and require the declaration of set-off by one of the parties. This corresponds to the approach of the German and Swiss law as well as many of the German-based jurisdictions. A judicially declared set-off is still possible, but it raises various questions which relate to the nature of such judicially declared set-off: is it procedural, substantive, or a combination of both? This matters in order to decide on whether procedural or substantive law governs the requirements and effects of the set-off. In all three jurisdictions, the requirement of reciprocity of the primary claim and the cross-claim implies various questions relating to specific areas of law, such as company or heritance law as well as other areas involving either multiparty constellations or constellations where one of the parties consists of more than one person. Particularly in Germany and Austria, similarity of the primary claim and the cross-claim is disputed where the money debts are expressed in different currencies. Case law and doctrine hold differing positions, 449 Paragraph 96 Austrian Jurisdiktionsnorm: ‘A counterclaim can be raised before the court of the primary claim if the subject matter of the counterclaim is connected to the subject matter of the primary claim or if it is otherwise suitable for set-off; furthermore, the counterclaim can be raised if it aims at ascertaining a legal relationship or a right which has become disputed in the course of the legal proceedings and the existence or non-existence of which is fully or partially decisive in the adjudication of the primary claim. (‘(1) Bei dem Gerichte der Klage kann eine Widerklage angebracht werden, wenn der mit letzterer geltend gemachte Anspruch mit dem Anspruche der Klage im Zusammenhange steht oder sich sonst zur Compensation eignen würde, ferner wenn die Widerklage auf Feststellung eines im Laufe des Processes streitig gewordenen Rechtsverhältnisses oder Rechtes gerichtet ist, von dessen Bestehen oder Nichtbestehen die Entscheidung über das Klagebegehren ganz oder zum Theile abhängt.’). 450 See Presentation of the Swiss Civil Procedure Act (Botschaft zur Schweizerischen Zivilprozessordnung) of 28 June 2006, Bundesblatt 2006, 7221. 451 See above at footnote 46. 452 Article 14(1) of the future Civil Procedure Act. 453 Article 6 of the Jurisdiction Act (Bundesgesetz über den Gerichtsstand in Zivilsachen) of 24 March 2000, Systematische Rechtssammlung No 272.

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which adds to the uncertainty surrounding this issue. Also, the exclusion of set-off is beset by many technicalities. In each jurisdiction, the debtor is prevented from raising the defence of set-off if the primary claim originates from certain circumstances. Here as well, subtle differentiations have been developed over the years, which require careful consideration. Liquidity of the cross-claim is another issue that has caused considerable concern in Germany and Austria. In the latter, it is still not quite clear whether the requirement mentioned in paragraph 1438 ABGB that the claims be ‘right’ includes that the claims be liquidated. It can thus be that liquidity is taken as a substantive law requirement indicating that both claims must be liquidated in order for a set-off to take place. Others hold that liquidity relates to court proceedings only. From this angle, liquidity constitutes a discretionary instrument in the hands of the judge. Whenever a cross-claim appears to involve questions that render the existence of the cross-claim or the amount claimed in the cross-claim uncertain, the court may defer its adjudication to a later trial. However, connectivity of the primary claim and the cross-claim will prevent the separation of the set-off defence from the main proceedings. The function of connectivity as a saver of the set-off defence in the case of an unliquidated cross-claim has recently been abandoned in Germany: an unliquidated crossclaim may be dealt with at a later stage regardless of its connection to the primary claim. Lacking connectivity may, however, have the same effect as a cross-claim that is unliquidated. The interplay of substantive and procedural law, of liquidity and connectivity, and the differences between the German and Austrian jurisdiction must be carefully considered. Last but not least, there is growing concern regarding the retroactive effect of a set-off. Recent literature, particularly in Austria and Switzerland, criticises such ex-tunc effect, reproaching it for being a relic of the Pandectistic school of the nineteenth century and promoting that set-off exercises its effect as of the date of its declaration.454 In summary, Germanic laws of set-off provide for a series of disputed or technical questions. At first sight, the main features may appear to be similar or at least comparable. On closer examination, however, many of the questions surrounding the operation, requirements and effect of a set-off are fraught with historical, and other difficulties.

IV Set-off in England and English-based Jurisdictions The laws of England and English-based jurisdictions have, on the whole, not followed the Roman law tradition. Their law developed independently from the 454 The arguments will be dealt with in the light of modern uniform international sets of rules, below at 211−13.

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rest of Europe to a great extent.455 Therefore, it is no surprise that the law of set-off in Anglo-Saxon jurisdictions has its own, historically grown categories of set-off mechanisms. For our purposes, we will look primarily at the English law of set-off. It is the oldest of the Anglo-Saxon jurisdictions and has remained the model for all other English-based legal systems to date. The English law of set-off presents itself as a treasure box of numerous ‘classes’ of set-off. Age-old legal practice has turned set-off into a complex topic involving multitudinous differentiations, nuances, and exceptions.456 The categories of set-off which are of interest for this study are ‘statutory set-off ’ (section A), abatement (section B), and ‘equitable set-off ’ (section C). The significance of Court Rules will also be consulted (section D), as will contractual set-off (section E) and counterclaim (section F). The chapter closes with a summary (section G).

A Statutory Set-off i History The survey on Roman law started with the observation that ‘set-off tends to be recognized only at a fairly mature stage within the development of a legal system.’457 This holds true for English law as well. Until the early eighteenth century, there was no general right of set-off available to a defendant in a common law action, at least not outside insolvency proceedings.458 The denial of a set-off was consistent with the strict rules of pleading and forms of action, which were designed to reduce the question to be decided by the court to a single, well-defined issue.459 General recognition of a right of set-off was only brought about by two statutes dating from the first half of the eighteenth century,460 by

455

Zweigert and Kötz (above n1) 178. See also Jones, Neil F, Set-off in the Construction Industry, 2nd edn (Oxford etc: Blackwell Science, 1999) 2: ‘The current state of the law of set-off is very much the product of history. It is complex and requires careful analysis in each case.’ 457 Zimmermann, Comparative Foundations (above n6) 19. 458 cf Collins v Collins (1759) 2 Burr 820 (per Lord Mansfield): ‘Since these two very beneficial Acts […], stoppage, or setting-off of mutual debts, is become equivalent to actual payment: and a balance shall be struck, as in equity and justice it ought to be. At common law, before these Acts, if the plaintiff was as much, or even more indebted to the defendant than the defendant was indebted to him, yet the defendant had no method to strike a balance: he could only go into a Court of Equity, for doing what is most clearly just and right to be done […]’; see also Green v Law (1805) 2 Smith KB at 669 (per Lord Ellenborough). 459 Lloyd, 64 U Penn L Rev (1916) (above n6) 541, 544. 460 The full title of the first statute reads ‘An Act for the Relief of Debtors with respect to the Imprisonment of their Persons’, (1729) 2 Geo II, c 22, s 13. Its wording suggests that its purpose was to assist debtors who were liable to be sent to debtors’ prison for non-payment of debts, see also Derham, Rory, The Law of Set-off, 3rd edn (Oxford: University Press, 2003) para 2.04. The first statute was a temporary provision intended to last for a period of five years. It was with the enactment of the second statute in 1735 (8 Geo II, c24, s 4) that the right of set-off was made permanent. 456

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which the so-called statutory set-off was established.461 The Statutes of Set-off of 1729 and 1735 were applied by the common law courts. They were repealed by the Civil Procedure Acts Repeal Act 1879, though this Act contained a provision which has been interpreted as preserving the right of set-off originally conferred by the statutes.462 Thus, statutory set-off is still a category of its own within English law of set-off.

ii Operation Statutory set-off is sometimes also labelled as ‘legal set-off ’,463 ‘court set-off ’, ‘independent set-off ’,464 or ‘procedural set-off ’.465 The last-mentioned term implies that this category of set-off operates in judicial proceedings. In the words of Brett LJ, ‘the right of set-off only arises where there is an action between parties. It is a statutable remedy which only is given in the case of an action.’466 This opinion has been upheld to the present day, as Lord Hoffmann’s dictum in Aectra v Exmar shows: ‘Independent set-off […] is not a substantive defence to the claim, but a procedure for taking an account of the balance between the parties.’467 The fact that statutory set-off is a judicial remedy means that the debtor cannot deduct the amount which is owed to it by the creditor and pay the

461 For a thorough discussion of the early development of set-off in English law see Loyd, 64 U Penn L Rev (1916) (above n6) 541, 544 et seq. 462 It was expressly provided that the repeal was not to affect any ‘jurisdiction or principle or rule of law or equity established or confirmed, or right or privilege acquired’, Civil Procedure Acts Repeal Act 1879, s 4(1)(b). See also Glencore Grain Ltd v Agros Trading Co [1999] 2 Lloyd’s Rep 410, 417, per Clarke LJ; Derham, Set-off (above n460) para 2.06; Kidwell, Raymond, ‘Set-off and Counterclaim’ in Halsbury’s Laws of England (Lord Hailsham of St Marylebone ed), Vol 42, 4th edn (London: Butterworth, May 1999) para 420. 463 See, eg, Barclays Bank plc v Gruffydd, Court of Appeal, 30 October 1992, per Scott LJ; Stein v Blake [1996] AC 243, 251; Berg, 2 LMCLQ (2000) 153 et seq; Kidwell in Halsbury’s (above n462) para 422. 464 Aectra Refining and Manufacturing Inc v Exmar NV [1994] 1 WLR 1634, 1650; Wood, Philip R, English and International Set-Off (London: Sweet & Maxwell, 1989) para 1–15; Goode, Roy, Commercial Law, 3rd edn (London: Penguin Books, 2004) 621. 465 See Wood, Set-Off (above n464) paras 1–10, 1–15. 466 Re Anglo-French Co-operative Society, ex p Pelly (1882) 21 Ch D 492, 507. See also Phillpott’s v Clifton (1861) 10 WR 135 (per Pollock CB): ‘[T]he case was decided [in the first instance] on the ground that the sum tendered, with something else, was sufficient to satisfy the plaintiff. That was in law, wrong.’; Pettat v Ellis (1804) 9 Ves Jun 562, 565 (per Sir W Grant MR): ‘In our law the debt still subsists; and it is only by a process in our Courts, that the adjustment takes place; though by the Civil Law, it operates ipso jure.’; Talbot v Frere (1878) 9 Ch D 568, 573 (per Jessel MR): ‘[T]he right of set-off as at present subsisting is the creation of statute by which, when a man owed money to A, and was also the creditor of A, he was entitled to set-off, but there could not be a set-off until action brought and set-off pleaded.’; Sovereign Life Assurance Co (in Liquidation) v Dodd [1892] 1 QB 405, 577 (per CA Lord Esher MR): ‘A set-off can only be set up where an action is brought.’; see also Scottish Metropolitan Assurance Co Ltd v Samuel [1923] 1 KB 348; Montagu v Forwood [1893] 3 QB 350, 353 (per Lord Esher MR). 467 Aectra Refining & Manufacturing Inc v Exmar NV [1994] 1 WLR 1634, 1650 et seq, per Hoffmann LJ.

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balance. In practice, the debtor will decline to pay the primary claim and will thus oblige the creditor to sue for the primary claim. The debtor will then raise the set-off as a defence in the proceedings. In the normal case, the debtor’s failure to pay the creditor’s claim is regarded as a breach of contract, because statutory set-off does not allow for a set-off in self-help but must be exercised in court.468 The consequences of the debtor’s wrongful exercise of self-help set-off will depend on the individual case. If time of payment is of the essence, failure to pay the creditor’s claim may amount to repudiation by the debtor. The creditor will consequently be entitled to damages and perhaps cancellation of the contract.469 Furthermore, the debtor’s nonpayment may, for instance, lead to a forfeiture or withdrawal for non-payment of rent or the repossession of hired equipment for non-payment of hire.470 Nonetheless, there is some confusion on this point. There are exceptions from the doctrine that a statutory set-off must be exercised in court. Statutory set-off as a self-help remedy has been accepted in some cases.471 Mostly, the reasons for this holding were not discussed.472 It seems that the circumstances in those cases were so overriding that in all fairness the creditor should be obliged to accept payment by set-off.473

iii Requirements a

Mutuality

The primary claim and the cross-claim must exist ‘between the same parties and in the same right’.474 The requirement that the claims must exist in the same right is a difficult one. As statutory set-off is an at-law defence, debts are only mutual if the debtor and the creditor each possess a legal title to their debts. If one of the claims grants an equitable title only, there is, strictly speaking, no mutuality at law. This affects, for example, the case where one of the debts has been assigned in equity or is held on trust for another party.475 However, since the nineteenth century, where the title in one of the claims is only equitable, common law courts have recognised a right of statutory set-off in

468 Kidwell in Halsbury’s (above n462) para 424; Derham, Set-off (above n460) para 2.33; Wood, Set-off (above n464) para 2–14 et seq. 469 Wood, Set-off (above n464) para 2–36. 470 Wood, Set-off (above n464) para 2–37. 471 See, eg, Collins v Collins (1759) 2 Burr 820; Green v Law (1805) 2 Smith KB, per Lord Ellenborough (at 669); Parker v Jackson [1936] 2 All E R 281, per Farwell J (at 287). 472 Collins v Collins (1759) 2 Burr 820; Green v Law (1805) 2 Smith KB. 473 See also Wood, Set-off (above n464) para 2–46. 474 Jones v Mossop [1844] 67 ER 568; see also Kidwell in Halsbury’s (above n462) para 435, with further references. 475 Derham, Set-off (above n460) para11.08, with further references.

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analogy.476 Alternatively, the debtor may also rely on an equitable set-off, if all other requirements of that form of set-off are fulfilled.477 Particular problems are raised by agency. The general rule is that the third party has no right to set off against the principal claims that it may have against the agent. However, where the principal is undisclosed and the third party could reasonably believe that the person it is dealing with is the principal, the principal will be bound by set-offs against the agent accruing before notice of the principal’s existence.478 b Money Debts Unlike the civil law jurisdictions, the English law of set-off requires the two claims to be about money. Obligations involving other kinds of obligations are not capable of being set off. This difference to the continental European jurisdictions is not a particular nicety of set-off law. It may be traced back to the English remedies system. At law, the party who did not receive what it was entitled under a contract could not claim for specific performance. Thus it could not claim that the other party be forced to fulfil the contract. Only in equity was a claim for specific performance granted—even then only under strict conditions.479 The unavailability of specific performance at law has moulded the law of statutory set-off. Claims other than those for money cannot be set off one against the other, as this would force the party against whom set-off is exercised to actually perform what was due under the contract. On the other hand, where performance of an obligation consisted of the payment of money, enforcement of that obligation was not regarded as a glaring inequity at law.480 The obligation to pay money is usually not considered as a claim for specific performance.481 Thus, set-off as a means of enforcing payment (and not any other obligations) is not impugned under common law principles.

476

See Derham, Set-off (above n460) para 11.08, with reference to numerous cases. Derham, Set-off (above n460) para 11.08. Chitty, Joseph, Chitty on Contracts (above n478) Vols I and II, 30th edn (London: Sweet & Maxwell, 2008) para 31–068, with references. 479 Hanbury, Harold Greville and Martin, Jill E, Modern Equity, 18th edn (London: Sweet & Maxwell, 2009) para 24–013 et seq; Peel, Edwin, Treitel’s The Law of Contracts, 12th edn (London: Sweet & Maxwell, 2007) para 21–016 et seq; Chitty on Contracts (above n478) para 27–001 et seq, with further references. 480 Chitty on Contracts (above n478) para 27–001; Peel, Treitel’s Law of Contracts (above n479) para 21–016: ‘The common law did not specifically enforce contractual obligations expect those to pay money.’ cf also McKendrick, Ewan, Contract Law: Text, Cases and Materials, 3rd edn (Oxford: Oxford University Press, 2008) 940. 481 See, eg, McKendrick, Contract Law (above n480) 940; Chitty on Contracts (above n478) para 27–001. A recent High Court decision has cast some doubt on the view that an action for the price is not a claim for specific performance. In Ministry of Sound (Ireland) Ltd v World Online Ltd [2003] EWHC 2178 (Ch); [2003] 2 All ER (Comm) 823, one of the judges accepted the submission that the claim for payment advanced by the claimand was a claim for specific performance (Nicholas Strauss QC, at [67]). 477 478

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Another question is whether foreign exchange contracts are capable of being set off. Up until the 1970s, English law required that a foreign currency obligation had to be converted into sterling in order to be enforceable in an English court. This restriction was abandoned in a House of Lords decision of 1976,482 where the Law Lords held that an English court may give judgment for a sum of money expressed in a foreign currency. This could be interpreted as meaning that the difference between inland and foreign currencies is abandoned, and for the purposes of statutory set-off, debts expressed in different currencies are eligible for set-off. There is case law483 that has embraced this view, and it has also found support in literature.484 Nonetheless, the situation is not quite clear in light of the fact that the Law Commission, in its report on ‘Private International Law Foreign Money Liabilities’ of 1983, opted for the contrary view by suggesting that a right of set-off should not be available in an action when different currencies are involved.485 c

Ascertainment of Claims

Both independent claims must be liquidated or clearly ascertainable.486 As Kennedy LJ put it as early as 1910: ‘Mutual debts’ mean practically debts due from either party to the other for liquidated sums, or money demands which can be ascertained with certainty at the time of pleading.487

Liquidity must exist with regard to both claims. The requirement that the primary claim and the cross-claim be liquidated causes considerable concern in English case law. Many monetary claims are initially unliquidated, for example, claims for losses under an indemnity insurance policy, guarantees of an unliquidated amount, or damages for breach of contract.488 The question as to when and how such a claim is ascertained is surrounded by much technicality and depends on the circumstances of the case. Abstract guidelines are difficult to provide. There is abundant case law dealing

482 Miliangos v George Frank (Textiles) Ltd [1976] AC 443. See also the earlier Court of Appeal decision in Schorsch Meier GmbH v Hennin [1975] 1 QB 416. 483 The Despina R [1978] 1 QB 396 (414–15); The Transoceanica Francesca [1987] 2 Lloyd’s Rep 155. 484 Derham, Set-Off (above n460) para 5.76. 485 Report on Private International Law Foreign Money Liabilities (Cmnd 9064, 1983), 32–5. 486 cf, eg, Kidwell in Halsbury’s (above n462) para 421; Derham, Set-off (above n460) para 2.15; Wood, Set-Off (above n464) para 1–16. 487 Bennett v White [1910] 2 QB 643 (648), CA; see also Stooke v Taylor (1880) 5 QB 569, per Cockburn CJ (at 575): ‘[independent set-off] is available only where the claims on both sides are in respect of liquidated debts, or money demands which can be readily and without difficulty ascertained.’; Stein v Blake [1996] AC 243, 251, per Lord Hoffmann: the debts must be ‘either liquidated or in sums capable of ascertainment without valuation of estimation’. 488 Kidwell in Halsbury’s (above n462) para 421; Wood, Set-Off (above n464) para 2–108 et seq.

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with intricate details. Efforts to structure the case law by scholarly writing489 have not been overly successful, as the question of whether a claim is liquidated or not depends on the specificities of the individual case. d

Maturity and Limitation

The cross-claim to a statutory set-off is subject to section 35 of the Limitation Act 1980, which provides that any claim by way of set-off or counterclaim is deemed to be a separate action and to have been commenced on the same date as the action in which the set-off or counterclaim is pleaded.490 Thus, a statutory set-off can be made notwithstanding the expiry of any time limit under the Act, provided that the time limit had not expired on the date of commencement of the original action.491 Furthermore, under the Statutes of Set-off, it was held that the debtor’s cross-claim must be due and payable before the creditor commences its action for the creditor’s primary claim.492 This is still the rule,493 although it is disputed.494 e

Obstacles to Set-off

Certain claims are not eligible for set-off. The obligation must then be performed. However, if set-off is declared by the party who should be protected by excluding set-off, set-off will be allowed. Those ‘unilateral set-off prohibitions’ can be roughly divided into three groups. The first category comprises claims that cannot be transferred by law, such as salaries and pensions of civil service employees (soldiers, teachers, firemen, policemen).495 The same would, in principle, hold true for salaries and pensions of private sector employees.496 However, there are exceptions to this. Where the salary claim and the employer’s crossclaim are connected (for example, a damages claim for non-fulfilment of contractual duties), set-off will often be allowed out of equity considerations

489 See, eg, Wood, Set-Off (above n464) providing a detailed analysis of case law dealing with various kinds of money debts in para 2–76 et seq; cf also Derham, Set-off (above n460) para 2.15 et seq. 490 See the Limitation Act 1980, s 35(1): ‘(1) For the purposes of this Act, any new claim made in the course of any action shall be deemed to be a separate action and to have been commenced – (a) in the case of a new claim made in or by way of third party proceedings, on the date on which those proceedings were commenced; and (b) in the case of any other new claim, on the same date as the original action. (2) In this section a new claim means any claim by way of set-off or counterclaim, […]’). 491 Chitty on Contracts (above n478) para 28–122, with references. 492 Stooke v Taylor (1880) 5 QB 566, 569; Hanak v Green [1958] 2 All ER 141, 149, CA; cf also Wood, Set-Off (above n464) para 2–145, with further references to case law. 493 Edmunds v Lloyd Italico [1986] 1 WLR 492, CA; [1986] 2 All ER 249, CA. 494 For details see Derham, Set-off (above n460) para 2.49; Wood, Set-Off (above n464) para 2–148. 495 Mulvenna v The Admiralty [1926] SC 842; Hollinshead v Hazleton [1916] 1 AC 428. 496 cf Truck Act 1831; Truck Amendment Act 1887/1896; Factories Act 1937.

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according to the principle of ‘no work, no pay’.497 Additionally, if the salaries or pensions are transferred to a bank account, they obviously become eligible for set-off.498 In a second group, set-off is excluded where the primary claim is based on deliberately committed tort. It is not quite clear whether a general set-off ban applies. However, set-off will often fail in those cases: either because the crossclaim will be unliquidated, or because the aggrieved party’s claim is classified as a property claim, which does not fulfil the requirement of ‘reciprocal money debts’.499 The third group is concerned with contractual exclusions of set-off. The parties may agree implicitly that no set-off shall take place.500 A waiver of the right to set-off in standard terms must survive section 13(1)(b) of the Unfair Contract Terms Act 1977.501 Whether courts apply a strict or a mild standard in this respect is not quite clear.502 Finally, there are some cases which cannot be placed in one of the three aforementioned groups. For example, individuals may not set off against tax claims or fines,503 or shareholders cannot, in principle, set off against their shares if the company is in liquidation.504 f Not Required: Connectivity Statutory set-off does not require that the claims are connected to each other. This is also shown by the term ‘independent set-off ’, which is sometimes used to describe statutory set-off—the ‘independence’ relates to the fact that statutory set-off may also take place where primary claim and cross-claim are not related or connected to each other.505 However, as just shown, connectivity may sometimes operate as a ‘saver’ of the right of set-off.

497 Miles v Wakefield Metropolitan District Council [1987] 2 WLR 795; Cresswell v Board of Inland Revenue [1984] 2 All ER 713; for older cases see, eg, The Phoenix [1832] 2 Hagg Adm 420. 498 See Jones & Co v Coventry [1909] 2 KB 1029. 499 See the case constellations in Derham, Set-off (above n460) para 5.78. 500 Moore v Jervis [1845] 63 ER 637; see also Derham, Set-off (above n460) para 5.78. 501 Section 13 Unfair Contract Terms Act: ‘(1) To the extent that this Part of this Act prevents the exclusion or restriction of any liability it also prevents—(b) excluding or restricting any right or remedy in respect of the liability, or subjecting a person to any prejudice in consequence of his pursuing any such right or remedy; […]’. 502 cf Stewart Gill Ltd v Horatio Myer & Co Ltd [1992] 2 All ER 257, CA, where a rather strict standard applied, with, eg, Coca-Cola Financial Corporation v Finsat International Ltd [1996] 2 Lloyd’s LR 274, CA, where the standard was rather mild. 503 RSC ord 77, r 6(1). 504 RSC ord 77, r 6(2); Companies Act 1948, s 259(3). 505 Aectra Refining and Manufacturing Inc v Exmar NV [1994] 1 WLR 1634, 1650, per Hoffmann LJ; see also Goode, Commercial Law (above n464) 621.

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iv Effect of Statutory Set-off Whether the exercise of a statutory set-off is retroactive has not been judicially reviewed to any great degree in England. The reason for this is that statutory set-off is a judicial remedy.506 This is emphasised by Hoffmann LJ in Aectra Refining and Manufacturing Inc v Exmar NV:507 ‘The procedural basis of independent set-off is reflected in the rule that the mere existence of liquidated cross-claims does not automatically extinguish the smaller debt. It operates only by express or implied agreement or through the judicial process by which the account is taken.’ To the extent the question has been addressed, it is thus deemed that set-off takes effect as of the date of judgment.508 There are, however, a few exceptions to the rule that statutory set-off takes effect at the date of judgment. In specific cases, the courts deemed the statutory set-off to have been exercised retroactively. In two cases, the availability of a set-off was fraudulently hidden from the debtor and the court attached retroactive effect to the set-off so as to prevent enrichment of the fraudster’s insolvent state.509 In another case, the court inferred from the conduct of the parties that they had agreed to a set-off (implied contractual set-off).510 Finally, where a creditor sues for its primary claim and deducts the amount of the debtor’s cross-claim at the time it brings its action so as to avoid the costs of the defence, it is suggested that the set-off is exercised at that time by the creditor.511

v Summary Statutory set-off was developed and shaped by the common law courts. It is difficult to analyse it comprehensively. Although the main features of statutory set-off can be outlined, many uncertainties remain. Its operation, its effect, and all of its requirements are subject to one or more exceptions. In particular, there are exceptions to the rule that statutory set-off operates judicially. Yet these are patchy and no real pattern emerges as to when independent set-off turns into a self-help remedy.

506

See also Wood, Set-Off (above n464) para 2–195. [1994] 1 WLR 1634 (1650). 508 Stein v Blake [1996] AC 243, 251, per Hoffmann LJ (‘Legal set-off does not affect the substantive rights of the parties against each other, at any rate until both causes of action have been merged in a judgment of the court.’); cf also Derham, Set-off (above n460) para 2.33, 4.29; for Australia, see, eg, National Australia Bank Ltd v Market Holdings Pty Ltd (2000) 35 ACSR 572, 577–78. 509 Ex p Stephens (1805) 11 Ves 24 and Vulliamy v Noble [1814–1823] All ER 597, (1817) 3 Mer 593. 510 Wallis v Bastard (1853) 4 De Gm & G 251. For further discussion of this case see also below at 112−121. 511 Wood, Set-Off (above n464) para 2–195; Derham, Set-off (above n460) para 1.04. 507

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Also there are doubts as to when and how a claim becomes liquidated or whether the cross-claim must have matured prior to the initiation of judicial proceedings. The time at which the statutory set-off becomes effective is not clear-cut either. Finally, it is uncertain in which circumstances exactly the right of statutory set-off will be excluded. The three categories outlined above512 are but a rough classification; there remain several situations in which a court will prohibit set-off. The question will often depend on public policy or mandatory provisions of a certain legal area, such as company or insolvency law. The matter is further complicated by the fact that connectivity of the primary claim and the crossclaim may sometimes ‘save’ the right of set-off. Eventually, the question of whether a statutory set-off will be excluded is blurred by the lack of clear guidelines. For instance, set-off against a primary claim arising out of a tort is not prohibited per se. There may be other reasons given for not allowing for a set-off, such as a lack of claims of a liquidated nature or a lack of similarity.

B Abatement i Historical Development Since statutory set-off requires ascertainment of both claims,513 it was, as long as statutory set-off was the only form of set-off under English law, possible for a seller who, for example, delivered defective goods, to obtain judgment for its purchase price claim because the buyer’s damages514 were not a liquidated debt within the meaning of statutory set-off. The buyer had to bring its claim for damages in a separate action. The result was that the plaintiff could get judgment in full even though it had defaulted. The defendant was left to file a separate action for recovery and bore the risk of the defaulter’s insolvency in the meantime.515 In the late eighteenth and early nineteenth century, the common law courts recognised that this was not just. They developed the plea of abatement. It was thus said in Mondel v Steel: It must however be considered, that in all these cases of goods sold and delivered with a warranty […] the rule which has been found so convenient is established, and that it is competent for the defendant […] not to set-off by a proceeding in the nature of a cross-action, the amount of damages which he has sustained by breach of the contract, but simply to defend himself by showing how much less the subject-matter of the action is worth […].516 512 513 514 515 516

Above at 106−07. Above at 105−06. Common law courts did not allow for any other kind of remedies, see above at 104. Wood, Set-Off (above n464) para 4–23. Mondel v Steel (1841) 8 M & W 858, 871 (per Parke B); (1835–42) All ER 511.

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Accordingly, since then, the defendant has been permitted to show that the goods—by reason of non-compliance with the warranty—or the work—in consequence of the improper performance of the contract—were diminished in value or of no value at all. The defendant can, on its own initiative, reduce the price claimed by the plaintiff to the real value of the goods supplied.517 For sales contracts, this rule is now settled in section 53(1)(a) of the Sale of Goods Act 1979.518 For contracts for work and materials, the old common law continues to apply.519

ii Scope of Application Abatement was, and remains, an extremely narrow defence. Courts have limited abatement to contracts for the sale of goods or for work and labour.520 Even within these cases, there are exceptions. Abatement does not apply to a contract of carriage, including carriage by sea.521 Nor is the defence available to defeat a claim for hire under a time charter of a ship.522 Furthermore, the creditor of an unliquidated cross-claim cannot rely on abatement to extinguish a claim on bills of exchange.523 Its application to fees for professional services has also been doubted.524

iii Connectivity Connectivity of the claims constitutes the core rationale of abatement. As its main policy is that a creditor should not be able to claim payment where it has not lived up to its contractual obligations,525 abatement necessarily requires that the claims arise out of the same sales or work contract or a closely connected transaction.

517 Wood, Set-Off (above n464) para 4–32 et seq; Derham, Set-off (above n460) para 2.87, with abundant case law references. 518 Section 53 of the Sale of Goods Act: ‘(1) Where there is a breach of warranty by the seller, or where the buyer elects (or is compelled) to treat any breach of a condition on the part of the seller as a breach of warranty, the buyer is not by reason only of such breach of warranty entitled to reject the goods; but he may — (a) set up against the seller the breach of warranty in diminution of extinction of the price; […]’. 519 Gilbert-Ash (Northern) Ltd v Modern Engineering (Bristol) Ltd [1974] AC 689: ‘[I]t has long been an established principle of law that if one man does work for another, the latter, when sued, may defend himself by showing that the work was badly done and that the claim made in respect of it should be diminished […]’. 520 Wood, Set-Off (above n464) para 4–35; Derham, Set-off (above n460) para 2.87 et seq.; Kidwell in Halsbury’s (above n462) para 411. 521 Aries Tanker Corp v Total Transport Ltd [1977] 1 WLR 185, 190. 522 See Century Textiles and Industry Ltd v Tomoe Shipping Co (Singapore) Pte Ltd (The Aditya Vaibhav) [1991] 1 Lloyd’s Rep 573, 575. 523 See Kidwell in Halsbury’s (above n462) para 414. 524 Hutchinson v Harris (1978) 10 BLR 19, 31–32. 525 Above at 109.

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iv Ascertainment of Claims It lies, at least partially, in the nature of abatement that the cross-claim need not be liquidated. All the creditor of the cross-claim must show is that the goods it purchased, or the work or labour rendered, are worth less than promised. The creditor of the cross-claim need not have ascertained the exact amount of the cross-claim; it is sufficient if the breach of warranty can be proven. This is consistent with the solutions found in other jurisdictions following the declarative self-help system. Neither Swiss nor German law requires ascertainty of the cross-claim; in Austria, where set-off is nowadays primarily regarded as a self-help mechanism, the liquidity requirement is at least heavily doubted. The fact that an estimate of the cross-claim, which is subject to later adjustment, is sufficient clearly leverages the use of set-off which otherwise would often be paralysed by a cumbersome verification and ascertainment procedure.

v Operation Abatement has all the characteristics of a substantive defence. It is a self-help remedy exercised outside judicial proceedings. The debtor can deduct from the primary claim a reasonable amount corresponding to the diminution in value of the goods or services provided.526 Abatement is not considered as a ‘separate action’ within the meaning of the Limitation Act 1980, which is another indication of its non-procedural character.527

vi Summary and Practical Significance Abatement was developed at law in order to overcome the harshness of statutory set-off, which is not available as a right if one of the claims is unliquidated. Abatement applies under very strict conditions. The buyer of goods or the orderer of work or labour may diminish the seller’s or manufacturer’s claim for the price to the real value of the goods or work respectively. In its narrow scope, it might, at first blush, be reminiscent of the banker’s and the insolvent estate purchaser’s set-off in classic Roman law.528 However, the claimant under abatement who does not of itself take into account the diminished value of its performance and accordingly does not claim for less than the contract price will not be denied its entire claim, as was the case for the argentarius under Roman law. Likewise, the claimant under abatement must not deduct any cross-demands 526

Kidwell in Halsbury’s (above n462) para 411. Lord Denning stated in Henriksens Rederi A/S v THZ Rolimpex (The Brede) [1974] 1 QB 233, 246 et seq, that abatement is a perpetual defence and that it can be relied on whether or not a separate action based on the same allegations would be time-barred under the contract or by the Statutes of Limitation. This view was shared by the Canadian Federal Court of Appeal in Atlantic Lines & Navigation Co Inc v The Ship ‘Didymi’ (The Didymi) [1988] 1 Lloyd’s Rep 97, 102. See also Stoke v Taylor (1880) 5 QB 569. This is in contrast to the cross-claim in a statutory set-off, which is deemed to be governed by s 35 of the Limitation Act, see above at 106. 528 Above at 29−30. 527

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that will be due on a specified future day, as the bonorum emptor was obliged to do, but must merely accept that the defendant will reduce the claim in proportion to the breach of warranty. Abatement was born out of equity and fairness considerations.529 With the development and expansion of ‘equitable set-off ’, abatement has lost much of its prior function. The two devices overlap to a considerable extent, and the tendency in case law of the last few decades has been to consider both equitable set-off and common law abatement when the defendant sets up a defence that the plaintiff had breached the contract on which it sued.530

C Equitable Set-off i Introduction Prior to the enactment of the statutes which established statutory set-off, the Court of Chancery had occasionally intervened in its function as an equity court. It had assisted defendants by issuing an injunction to restrain the plaintiff from proceeding with its claim against the defendant until it had given credit for its own indebtedness to the defendant.531 However, those cases were isolated incidents and cannot be taken as evidence of a general principle of set-off in equity. In fact, equitable relief was usually either founded upon a custom that the accounts should be balanced, or on an implied agreement to this effect.532 Nonetheless, the occasional intervention of equity courts shows that the courts of equity were more receptive to set-off than the common law courts. They were ready to hear a cross-claim in the same action and, thus, to look at the overall financial circumstances between the parties if arising out of the same transaction.533 Nowadays, equitable set-off is a form of set-off in its own right.

529

Kidwell in Halsbury’s (above n462) para 419. See Gilbert-Ash (Northern) Ltd v Modern Engineering (Bristol) Ltd [1974] AC 689; Compania Sud Americana de Vapores v Shipmair BV (The Teno) [1977] 2 Lloyd’s Rep 289, 297; Aries Tanker Corp v Total Transport Ltd [1977] 1 WLR 185, 194. 531 Wallis v Bastard (1853) 4 De GM & G 251, 256 (per Lord Cranworth LC): ‘A set-off was recognised as a reasonable act, and nothing more, by this Court long before it found its way into a Court of Common Law. By the common law, there was no such thing as set-off.’ See also Collins v Collins (1759) 2 Burr 820 (per Lord Mansfield): ‘Since these two very beneficial Acts […], stoppage, or setting-off of mutual debts, is become equivalent to actual payment: and a balance shall be struck, as in equity and justice it ought to be. At common law, before these Acts, if the plaintiff was as much, or even more indebted to the defendant than the defendant was indebted to him, yet the defendant had no method to strike a balance: he could only go into a Court of Equity, for doing what is most clearly just and right to be done […]’; see also Green v Law (1805) 2 Smith KB, at 669 (per Lord Ellenborough). 532 Derham, Set-off (above n460) para 2.01, with further references; Kidwell in Halsbury’s (above n462) para 426. 533 Wood, Set-Off (above n464) para 4–38. 530

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ii Operation The nature of equitable set-off is generally said to be substantive.534 However, ‘substantive’ has a different meaning than in continental European law. With regard to English equitable set-off, it means that the debtor who has a crossdemand against the creditor need not exercise its right of set-off in court. It can directly deduct a reasonable sum reflecting the loss suffered because of the matters giving rise to the set-off and pay only the difference to the creditor. Provided that the deduction was reasonable and made in good faith the tender is valid. This is the case even if, in fact, a lesser sum should have been deducted. The creditor’s only remedy is recovery of the over-deduction.535 Thus, equitable set-off is primarily a self-help remedy. However, contrary to the Roman-based jurisdictions’ understanding of ‘substantive’, equitable set-off has not in reality been effectuated by deducting the cross-demand from the creditor’s primary demand. The cross-demands remain in existence and retain their separate identities until extinguished by judgment or agreement. The question then is how the debtor can be entitled to deduct its cross-demand if set-off has not yet taken place. Equity accomplishes this by means of an injunction: it is considered as unconscionable for the creditor to ignore the debtor’s cross-demand if circumstances exist which support an equitable set-off.536 An injunction precludes the creditor from claiming its debt from the debtor before judgment, that is, before equitable set-off takes effect. Thus, the debtor can deduct its cross-claim from the creditor’s claim without falling in default. The substantive nature of equitable set-off must be seen in light of this mechanism. The debtor may, in self-help, deduct its cross-demand from the creditor’s primary demand. If necessary, the debtor may seek protection by means of an injunction. Set-off as such is, however, only effectuated by judgment. Thus, from a strictly legal point of view, equitable set-off does not qualify as a purely substantive defence since it is the judgment which brings about the set-off. Prior to the judgment, only the injunction is in effect. The uncertainty surrounding the time and manner in which equitable set-off is required to be exercised has often been pointed out in literature.537 In practice, whether it is the injunction or the set-off proper which bars the creditor from ignoring the debtor’s cross-demand, the result is the same. The debtor is entitled under equitable set-off to exercise its right of deduction in

534

Derham, Set-off (above n460) para 4.30; Wood, Set-Off (above n464) paras 4–4, 4–24. Sim v Rotherham MBC [1986] 1 Lloyd’s Rep 159; The Kostas Melas [1981] 1 Lloyd’s Rep 18, 26. 536 See Sim v Rotherham Metropolitan BC [1986] 1 Lloyd’s Rep 159, [1987] 1 Ch. 216; see also the Australian cases Roadshow Entertainment Pty Ltd v (CAN 053 006 269) Pty Ltd (1997) 42 NSWLR 462, 481, CA; Re Kleiss, ex p Kleiss v Capt’n Snooze Pty Ltd (1996) 61 FCR 436, 440; Re Sgambellone, ex p Jaques (1994) 53 FCR 275, 280. 537 Goode, Commercial Law (above n464) 622; Kidwell in Halsbury’s (above n462) para 434. 535

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self-help. This is also evidenced by early decisions stemming from the time before equitable set-off was established as an autonomous form of set-off, where equity courts achieved the permanency of an equitable set-off by way of a perpetual injunction.538

iii Requirements a

General Prerequisites; ‘Arising Out of the Same Transaction’

Equitable set-off requires that the primary claim and the cross-claim be mutual. Nonetheless, there is case law where courts have held that, because of special circumstances, it was appropriate that a set-off should occur despite the absence of mutuality.539 A further requirement, which can also be found with statutory set-off, is that the cross-claim be mature.540 Similarly, there is a tendency to deem equitable set-off to be outside the scope of the Limitation Act 1980, with the effect that it cannot become time-barred.541 Unlike statutory set-off, however, equitable set-off only operates where the cross-claim arises out of the same transaction. Courts have developed a relatively generous definition of ‘arising out of the same transaction’. It is not essential that the primary claim and the cross-claim have originated in the same contract.542 The important point is that the cross-claim is inseparably connected with the transaction that gave rise to the claim,543 or—to put it in the traditional formulation—that the title of the claimant to prosecute its demand is impeached because the claims are so closely connected.544 In appropriate circumstances, claims under separate contracts can give rise to an equitable set-off.545

538

See Derham, Set-off (above n460) para 4.30. See Derham, Set-off (above n460) para 4.48 et seq. Wood, Set-Off (above n464) para 4–121. 541 See Henriksens Rederi A/S v THZ Rolimpex (The Brede) [1974] 1 QB 233, [1973] 3 All ER 589, CA, where Lord Denning held in an obiter dictum that equitable set-off was not a set-off within the Limitation Act 1923, s 28 (now Limitation Act 1980, s 35); this view is shared by, eg, Kidwell in Halsbury’s (above n462) para 434 fn 3; Chitty on Contracts (above n478) para 28–123, with further references. 542 Hanak v Green [1958] 2 QB 9 (31), per Sellers LJ (equitable set-off could proceed where the cross-claim was closely associated with and incidental to the contract); see also Japan Line Ltd v Aggeliki Charis Compania SA (The Angelic Grace) [1980] 1 Lloyd’s Rep 288; British Anzani (Felixstowe) Ltd v International Marine Management (UK) Ltd [1980] 1 QB 137; National Westminster Bank plc v Skelton [1993] 1 WLR 72, 76. 543 Bank of Boston Connecticut v European Grain and Shipping Ltd [1989] 1 AC 1056. 544 See Bartlett v Barclays Bank Trust Co Ltd (No 1) [1980] Ch 515, 538, per Brightman J; cf also Derham, Set-off (above n460) para 4.55; Kidwell in Halsbury’s (above n462) para 430. 545 See The Angelic Grace [1980] 1 Lloyd’s Rep 288: the owners of a vessel had let the vessel under three consecutive charterparties to the same charterers. When the vessel was redelivered after the expiration of the third charter, it contained a number of bunkers for which the owners were liable to the charterers. However, the owners had a cross-claim for stevedore damage occurring during the second and third charter for which the charterers were liable under the terms of the charter contract. The claim and cross-claim were considered so closely connected as to qualify for set-off. The three 539 540

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As with statutory set-off and abatement, the claim and the cross-claim must both refer to money.546 In light of the fact that equity has never restricted its remedy regime to monetary reliefs, the restriction of equitable set-off to monetary claims does not seem inevitable. However, it is obviously seen as ‘the essential nature of set-off ’.547 Contrary to abatement, equitable set-off does not restrict itself to cross-claims stemming from sales contracts or contracts for work and labour.548 However, there seems to be a peculiar exception to the rule that equitable set-off is open to all sorts of transactions. The House of Lord refused the applicability of equitable set-off in voyage charter agreements.549 It is difficult to find a theoretical justification for this distinction.550 b

The ‘Equity’ Element

‘Equitable’ set-off must be literally equitable. Relief will only be provided if the debtor (the party invoking set-off) can show some equitable ground for being protected from its adversary’s demand.551 The allegations on which the debtor relies must be such as to give rise to an equity which impeaches the creditor’s title to the claim.552 As stated by Chitty, ‘the prevention of manifest injustice has always been an ingredient in equitable set-off ’.553 Therefore, if, in the circumstances, it would be unjust that a set-off should occur, an equitable set-off may be denied notwithstanding the claims are otherwise closely connected.554 The conduct of the parties may be relevant to the question of the availability of equitable relief by way of set-off.555 The courts have given little guidance as to the circumstances in which this concept may apply, but in one Australian case an

charterparties involved the same vessel being chartered to the same charterers over a continuous period. In effect, they were all a part of the same transaction. See also Parsons v Sovereign Bank of Canada [1913] AC 160. 546 See, eg, Tony Lee Motors Ltd v M S McDonald & Son (1974) Ltd [1981] 2 NZLR 281, 288; Hamilton Ice Arena Ltd v Perry Developments Ltd [2002] 1 NZLR 309, 311. 547 Kidwell in Halsbury’s (above n462) para 430 fn 13. 548 Hanak v Green [1958] 2 QB 9, [1958] 2 All ER 141, CA; Henriksens Rederi A/S v THZ Rolimpex, The Brede [1974] QB 233, [1973] 3 All ER 589, CA; Aries Tanker Corp v Total Transport Ltd [1977] 1 All ER 398, [1977] 1 WLR 185; Dole Dried Fruit and Nut Co v Trustin Kenwood Ltd [1990] 2 Lloyd’s Rep 309, CA. 549 The Aries [1903] 4 Ch App 242; The Dominique [1989] 1 Lloyd’s Rep 431. 550 Aeberli, Peter, ‘Abatements, Set-offs and Counterclaims in Arbitration Proceedings’ Arbitration and Dispute Resolution Law Newsletter (1992) No 3. 551 Hanak v Green [1958] 2 QB 9, 18–19. 552 Wood, Set-Off (above n464) para 4–55; Kidwell in Halsbury’s (above n462) para 430. 553 Chitty on Contracts (above n478) para 37–147. 554 Derham, Set-off (above n460) para 4.44. 555 See the Australian cases Galambos & Son Pty Ltd v McIntyre (1974) 5 ACTR 10, 26; Sydmar Pty Ltd v Statewise Developments Pty Ltd (1987) 73 ALR 289, 296; AMP v Specialist Funding Consultants Pty Ltd (1991) 24 NSWLR 326, 329; AWA Ltd v Exicom Australia Pty Ltd (1990) 19 NSWLR 705, 712; Walker v Department of Social Security (1995) 56 FCR 354, 365.

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equitable set-off was denied even though the claims were closely connected because the cross-claimant had failed to investigate, quantify, or press its claim.556 c

Ascertainment of Claims

There is no explicit requirement that the cross-claim be liquidated,557 but the issue is not completely uncontroversial. Singular cases seem to state the contrary. Two older cases held that equity would not allow set-off of a liquidated demand against an action for damages.558 Some recent cases have denied equitable set-off where: (a) the quantum of the cross-claim was highly speculative;559 (b) the cross-claim depended on the outcome of the taking of a long and complicated account;560 or (c) the determination of the cross-claim would otherwise involve considerable delay such that the claimant would not be adequately compensated for being kept from its money for this period.561 d

The ‘Equity Element’ and Liquidity as Discretionary Instruments

The cases in which equitable set-off was denied because liquidity was lacking are also reflecting the idea that it is equity which, in casu, must call for an equitable set-off. In all cases where equitable set-off was denied on the ground that it was either acceptable for the cross-claimant to fulfil its debt in full or the cross-claim was unliquidated, the courts, after evaluating the arguments speaking in favour and against an equitable set-off, seemed to deem it just that the claimant should—preliminarily—receive the full amount of what the debtor owed it. Both the equity element and the requirement of liquidity—if accepted as such—grant the courts discretion in whether or not to affirm an equitable set-off.562 As this brief survey shows, equitable set-off requires that the individual case at hand calls for a set-off. It must be examined whether it is fair under the circumstances to allow for a set-off. Such a test of fairness bears uncertainties. Whether set-off will be sanctioned in the particular case is difficult to predict, and much will depend on the circumstances of each case.

556 APM Wood Products Pty Ltd v Kimberley Homes Pty Ltd (NSWSC, Cole J, 17 February 1989), referred to in AWA Ltd v Exicom Australia Pty Ltd (1990) 19 NSWLR 705, 712. 557 See also Wood, Set-Off (above n464) para 4–124 et seq; Kidwell in Halsbury’s (above n462) para 430. 558 Pellas v Neptune Marine Insurance (1879) 42 LT Rep 32 (37); McCreagh v Judd [1923] WN 174. 559 Abignano v Wenkart (1988) 9 BPR 16, 765, 16, 774. 560 General Credits (Finance) Pty Ltd v Stoyakovich [1975] Qd R 352. 561 Roadshow Entertainment Pty Ltd v (CAN 053 006 269) Pty Ltd (1997) 42 NSWLR 462, 489. 562 Aeberli, ADRLJ (1992) (above n550) No 3. (‘The issue is not whether the claim by one of the parties to an action is liquidated or unliquidated, but whether matters raised by the other party give rise to an equity which impeaches the title to that demand. This requirement is more likely to be satisfied where the claim is for remuneration for goods sold or hired, or for services, but there is no rule of equity which requires the claim to be for a liquidated sum.’)

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iv Effect It is generally said that equitable set-off does not have retroactive effect and that the countervailing claims remain in existence between the parties until extinguished by judgment.563 This means that equitable set-off bears no retroactivity in the strict legal sense, as provided in the provisions of the Germanic jurisdictions.564 However, since the debtor may exercise its right of set-off in self-help or, alternatively, ask for an injunction which will preclude the claimant from claiming its (full) debt before judgment, it is implied that the debtor is not in default if it deducts its cross-claim from the creditor’s claim and that any interest payable to the principal sum is limited to the balance.565 In other words, it is retrospectively said that the debtor was right when exercising set-off in self-help, and that all legal consequences caused by this self-help are triggered by exercising the right of set-off. This seems to be quite similar to what the Germanic jurisdictions call ‘retroactive effect’ of a set-off. At least one author has taken the view that equitable set-off takes effect ex tunc, that is, at the time when the debtor’s cross-claim accrued.566 This does not eliminate the fact that equitable set-off is sanctioned by a court. The judgment has constitutive effect. This is in contrast to the Germanic laws of set-off, where the declaration567 of set-off as such effectuates the set-off. Accordingly—at least according to the traditional view—in the Germanic jurisdictions a court’s judgment has only declaratory effect. In summary, equity has developed mechanisms which safeguard the debtor’s right of set-off before judgment. This is done by way of an injunction. The injunction puts the debtor, practically speaking, in a position as if set-off had taken effect on the date the right of set-off was exercised. Thus, the equitable set-off is a preliminary remedy as long as it has not been sanctioned by the court.

D Relevance of Court Rules i Mere Regulation of Practice and Procedure If a set-off is relied upon in court proceedings, the Civil Procedure Rules (CPR) of 1998 must be observed. The CPR 1998 were made pursuant to the Civil Procedure Act (CPA) 1997.568 Rule 16.6 of the CPR 1998 does not differentiate between the various forms of set-off. The provision reads: 563 Aries Tanker Corp v Total Transport Ltd [1977] 1 WLR 185; Derham, Set-off (above n460) para 4.30 et seq. 564 Above at 78−79, 89, 95. 565 See Derham, Set-off (above n460) para 4.42. 566 Wood, Set-Off (above n464) para 4–24 et seq. 567 The declaration can be implicit such as by deducting the cross-claim from the primary claim, see above at 66, 81, 91. 568 cf Civil Procedure Act 1997, s 1.

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Where a defendant (a) contends he is entitled to money from the claimant; and (b) relies on this as a defence to the whole or part of the claim, the contention may be included in the defence and set off against the claim, whether or not it is also a [counterclaim].569

The substance of rule 16.6 is the same as rule 17 of the former Rules of Supreme Court Ordinance. Unlike counterclaim, which is entirely governed by procedural law, the requirements of set-off have been developed in common law and equity. Only ‘matters of practice and procedure’570 are governed by procedural law. In other words, the Civil Procedure Rules do not determine the availability of a set-off, but merely define a procedure for claiming the defence. It has often been emphasised in English case law in relation to the former rule and its predecessors that the rule itself did not determine the availability of a set-off, but merely laid down a procedure for claiming the defence outside bankruptcy and company liquidation.571

ii Misunderstandings in Case Law The fact that civil procedure legislation contains only a rule-making power with respect to matters of practice and procedure and can therefore not be the source of a similar right has partially been ignored in Australia. There has been considerable confusion in the territory of New South Wales, where the Statutes of Set-off were repealed without preserving the right of statutory set-off as such (as the English repeal legislation did).572 The confusion stems from the fact that, instead of the former Statutes of Set-off, court rule provisions are now supposed to build the legal basis for a right of set-off.

569 The exact wording of the final part of CPR 1998 rule 16.6 reads ‘whether or not it is also a Part 20 claim’. A Part 20 claim is defined in rule 20.2.: ‘(1) A Part 20 claim is any claim other than a claim by a claimant against a defendant and includes (a) a counterclaim by a defendant against the claimant or against the claimant and some other person; (b) a claim by a defendant against any person (whether or not already a party) for contribution or indemnity or some other remedy; and (c) where a Part 20 claim has been made against a person who is not already a party, any claim made by that person against any other person (whether or not already a party). (2) In this Part ‘Part 20 claimant’ means a person who makes a Part 20 claim.’ Counterclaim will be referred to later, see below at 121. 570 Civil Procedure Act 1997, rule 1(1): ‘There are to be rules of court (to be called “Civil Procedure Rules”) governing the practice and procedure to be followed in (a) the civil division of the Court of Appeal, (b) the High Court, and (c) county courts.’ 571 Stumore v Campbell & Co [1892] 2 QB 314, 316–17; Hanak v Green [1958] 2 QB 9, 22. See also Kidwell in Halsbury’s (above n462) para 404. 572 The English Statutes of Set-off were originally incorporated into the laws of the various Australian territories and of New Zealand. Unlike England, the statutes have not been repealed, so that they still form a part of the laws of those jurisdictions—with the exception of New South Wales and Queensland. In New South Wales, the statutes were repealed in 1969, and Queensland followed suit in 1984. Both repealing Acts did not contain a salvation clause, which, like the English repeal legislation, would have saved the right of set-off originally conferred by the statutes. For details see Castles, Alex C, ‘The Reception and Status of English Law in Australia’ 2 Adelaide Law Review (1963) 1 et seq.

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This is first shown in the infamous New South Wales case Stehar Knitting Mills Pty Ltd v Southern Textile Converters Pty Ltd.573 Since the statutes were repealed and a clear legal basis for set-off at law was lacking, the court referred to an old procedural rule.574 According to this rule, a monetary cross-demand, whether for a liquidated sum or not, could be included in the defence and set-off against the plaintiff ’s claim. Consequently, the court found that set-off at law (former statutory set-off) was now much easier to obtain. It was no longer necessary to show mutuality or liquidity of the debts (connectivity was not required in any event)—all that was required were monetary cross-demands. This decision abandoned all legal theory relating to set-off by holding that a court rule could replace the former statutes. The misunderstanding comes from the idea underlying the Stehar Knitting Mills decision that the statutes operated judicially. On that basis, there was no reason why Supreme Court Rules made pursuant to legislation which contained a rule-making power with respect to matters of practice and procedure could not be the source of a similar right.575 In Victoria, a similar view to the one expressed in the Stehar Knitting Mills case was adopted. The Victorian Supreme Court Rules of 1986 allow a defendant to include in the defence and set off against the plaintiff ’s claim any claim that the defendant in turn has against the plaintiff for the recovery of a debt or damages. This rule has been read as making great inroads upon traditional set-off requirements, whether statutory or equitable.576 Queensland, where, like in New South Wales, the statutes were repealed in 1984, does not seem to share those views.577 The Stehar Mills case and the Victorian Supreme Court Rules are problematical. The fact that statutory set-off is a judicial instrument was mistaken as implying that it can be replaced by rules of procedure.578 However, the repeal of the statutes cannot upgrade the court rules to the new legal basis of set-off at law. In England, there is ample authority for the proposition that the Judicature Acts, and the Rules of the Supreme Court made pursuant to those Acts and their successors, did not alter the rights of the parties and, in particular, did not confer

573

[1980] 2 NSWLR 514. Supreme Court Rules (NSW), Pt 15 rule 25. The rule has in the meantimee been omitted from the Supreme Court Rules, see Supreme Court Rules (Amendment No 154) 1984. 575 See also Derham, Set-off (above n460) para 2.58. 576 See Williams, Neil J, Civil Procedure Victoria (looseleaf) Vol 1, 3rd edn (Sydney: Butterworths, 1987) para 13.14.25 (‘The rule abolishes the distinction between set-off and counterclaim in the ordinary case’). In a number of cases, it has been assumed that r 13.14 itself confers the set-off defence, see John Holland Construction and Engineering Pty Ltd v Majorca Projects Pty Ltd (Vic SC, 27 July 1995, at p 12), per Hansen J; Westpac Banking Corp v Market Services International Pty Ltd (Vic SC, 1 October 1996, at p 60), per Batt J; Novawest Contracting Pty Ltd v Taras Nominees Pty Ltd [1998] VSC 205, at [22]–[23]. 577 Although the Statutes of Set-off were repealed in 1984 and although a court rule referring to set-off exists (r 173(1) of the Uniform Civil Procedure Rules provides that: ‘A defendant may rely on set-off (whether or not of an ascertained amount) as a defence to all or part of a claim made by the plaintiff whether or not it is also included as a counterclaim’), it has apparently not been held so far that the court rule replaces the former statutes. See also Derham, Set-off (above n460) para 2.63. 578 Derham, Set-off (above n460) para 2.61. 574

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any new rights of set-off.579 Obviously, the courts and legislation in New South Wales and Victoria have not been very much impressed by the English view.580 The misunderstanding in New South Wales and Victoria resembles the discussion about the nature of a Prozessaufrechnung in German law.581 However, in Germany, the debate has lost some of its vigour. In particular, the pure procedural theory, which would resemble the Australian understanding of statutory set-off, is no longer seriously upheld.

E Contractual Set-off As is the rule in other jurisdictions, English and English-based laws allow for a set-off by agreement.582 The stipulation of set-off clauses is quite common in a commercial contract involving the payment of money by one person.583 As Goode has stated, ‘the purpose of a contractual set-off is usually to extend the right beyond that which would be given at law or in equity’.584 If the parties conclude a set-off contract, the requirements as set out for statutory and equitable set-off or abatement need not be observed. However, although set-off agreements can deviate from the law of set-off, they must nonetheless comply with public policy.585 Furthermore, the Unfair Contract Terms Act 1977 may also operate to restrict or exclude a right of set-off in respect of a liability arising under a contract.586 Contractual set-off serves a further purpose. Not infrequently, the courts have assumed that the parties had impliedly agreed on a set-off. This construction not only helped to circumvent requirements which would not have been fulfilled in casu.587 It has also been used to avoid the harshness of statutory set-off, which does not allow for any self-help of the debtor prior to the judicial proceedings.588 579 See Hanak v Green [1958] 2 QB 9, 22, per Morris LJ (‘the Judicature Acts conferred no new rights of set-off ’); see also Kidwell in Halsbury’s (above n462) para 435; Derham, Set-off (above n460) para 2.58. 580 On the—still very close—relation of English and Australian law see, generally Castles, Adelaide Law Review (above n472) 1. 581 Above at 66−69. 582 Kidwell in Halsbury’s (above n462) para 429. 583 See the references in Kidwell in Halsbury’s (above n462) para 429. 584 Goode, Commercial Law (above n464) 610. 585 Thus, a clearing regulation—a mere multiparty set-off agreement—in the airline business was found to be contrary to s 302 of the English Companies Act. This is a provision to which public policy character was attached because it provides for equal distribution among creditors. Through the clearing regulation, unsecured creditors obtained the same rights as if they had taken a charge on the debts, thus circumventing the pari passu idea underlying the Companies Act, British Eagle International Airlines Ltd v Compagnie Nationale Air France [1975] 1 WLR 758. 586 See s 13(1)(b) of the Act and, eg, Stewart Gill Ltd v Horatio Myer & Co Ltd [1992] QB 600, [1992] 2 All ER 257, CA, where it was held that, in the circumstances of the case, the term was unreasonable; see also Electricity Supply Nominees Ltd v IAF Group Ltd [1993] 3 All ER 372, [1993] 1 WLR 1059. 587 See the references in Kidwell in Halsbury’s (above n462) para 429. 588 cf above at 102−03.

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In Wallis v Bastard,589 for example, the court found in favour of the debtor, who had deducted its cross-claim from the creditor’s primary claim without awaiting the creditor’s initiation of judicial proceedings. This finding was based on an implied agreement of set-off.590

F Counterclaim The right of counterclaim was first introduced in 1873.591 It is now embodied in the Supreme Court Act 1981592 and in rule 20.4 of the Civil Procedure Rules (CPR) 1998. Pursuant to rule 20.4(2) CPR, ‘[a] defendant may make a counterclaim against a claimant—(a) without the court’s permission if he files it with his defence; or (b) at any other time with the court’s permission.’ The counterclaim differs from a set-off in that it does not give rise to a defence. It constitutes a procedural device by which the court may consider independent cross-actions in the same proceedings. The effect of a counterclaim is to put the claimant in the position of defendant to a cross-action.593 Unlike (statutory) set-off, where the set-off ’s characterisation as a defence to the claimant’s claim leads to a single judgment for the balance, the usual practice with counterclaims is to enter separate judgments on both the claim and the counterclaim.594 The right to counterclaim is entirely governed by procedural law. The requirements of a counterclaim as well as the procedural technical aspects (the way in which a counterclaim may be brought) are to be gleaned from the Civil Procedure Rules.595

G Summary The English law of set-off provides for various forms of set-offs, which differ in several aspects. Statutory set-off requires mutual monetary and liquidated debts. 589

(1853) 4 De GM & G 251. (1853) 4 De GM & G 251, per Lord Cranworth (at 257): ‘In the present case, from the circumstance that possession was taken in 1842 by the mortgagee, and that no claim was made for interest by either party, I infer that, whether expressed or not, it was the agreement perfectly understood between the parties that the one debt should wipe off a portion of the other debt; in effect, that there should pro tanto be a set-off. I do not, therefore, feel called upon to speculate as to the exact course this Court would have pursued if the parties had, in the year 1842, adversely asserted against each other their mutual right; but not having done so, they must be understood, like reasonable persons, to have adopted an arrangement perfectly obvious and in conformity with what ought to have been done.’ 591 Supreme Court of Judicature Act, s 24(3) (repealed), which was replaced by the Supreme Court of Judicature (Consolidation) Act 1925, s 39(1)(a) (repealed). 592 SCA, s 49(2)(a). 593 Derham, Set-off (above n460) para 1.05. 594 Hanak v Green [1958] 2 QB 9; Stumore v Campbell & Co [1892] 1 QB 314, 317; Chell Engineering Ltd v Unit Tool and Engineering Co Ltd [1950] 1 All ER 378. 595 Kidwell in Halsbury’s (above n462) para 494. 590

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Connectivity of the claims is not essential, though it may bear significance as a ‘saver’ of the right of set-off in some cases. Statutory set-off must be exercised in court; it is not a self-help remedy. Before judgment, the countervailing claims remain in existence as two distinct and separate debts. In contrast, equitable set-off only takes place where the primary claim and the cross-claim arise out of the same transaction and where equity dictates that a set-off must be granted. Whether the debtor is entitled to an equitable set-off depends on fairness considerations with regard to the case at hand. From a practical point of view equitable set-off operates as an extra-judicial self-help remedy. The debtor can declare set-off outside judicial proceedings, which is often done impliedly by deducting the cross-demand from the primary demand. The legal construction of equitable set-off as a self-help mechanism, however, is tricky. That equitable set-off is said to take effect only as of the date of judgment stands in contrast to the assumption that, from the date set-off is declared no interest on the cross-demand accrues, and the debtor by not paying the (full) amount is not considered to be in default. Abatement, again, is a set-off device with a very restricted scope of application. It can only occur in relation to contracts for the sale of goods or work and labour and merely entitles the buyer or orderer to set off his damage suffered as a consequence of the non-performance of the seller and entrepreneur, respectively. Abatement, like equitable set-off, operates outside the court. In light of the abandonment of the differentiation between equity and common law courts in the Supreme Court of Judicature Acts of 1873, it has been said: Whether [the defence] stems from the development of the common law in the last century or from equitable defences or equitable set-off, as it is sometimes called, or from both, seems to […] be only of academic interest since the passing of the Judicature Act 1873 made equitable defences available in common law courts.596 (Lord Salmon)

It may thus appear that the differentiation between statutory or equitable set-off and abatement does not matter significantly.597 In the event that the primary claim and the cross-claim are not connected, statutory set-off will be the appropriate remedy. In contrast, if the cross-claimant is confronted with a typical abatement situation, it may wish to seize that device. There is a grain of truth in these considerations, if the proceedings are based on the principle that the court itself should of its own motion establish the law (iura novit curia). Under this maxim, the debtor will not suffer any disadvantages if it wrongly relies on statutory set-off. The court may still come to the conclusion that the requirements of equitable set-off are met.

596

See Aries Tanker Corp v Total Transport Ltd [1977] 1 WLR 185, 194, per Lord Salmon. See, eg, Newman v Cook [1963] VR 659, in which Hudson J based the purchaser’s right on equitable set-off, whereas Herring CJ and Dean J based the same right on abatement. 597

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However, there are two caveats to this argument. The first objection is that where a court is confronted with foreign law the principle of iura novit curia will often not apply. In international arbitration, there is considerable uncertainty with regard to the question of whether it is the parties or the arbitral tribunal that must provide the law.598 Thus, the conclusion that the differentiation among the various forms of English set-off is unnecessary may only be drawn where the judicial authority is simultaneously bound to establish the law itself. The second reason why Lord Salmon’s statement is not quite convincing is that, even if the principle of iura novit curia applies, a party would be ill-advised to neglect the legal details of English laws of set-off. These are not wiped off by the argument that it is up to the court to decide whether the requirements of one form of set-off are fulfilled, and it will usually be a clear and stringent presentation of the legal situation which will have an impact on the outcome of the case.

V Comparative Analysis A Set-off as a Mainly Substantive Instrument It is noticeable that, in all jurisdictions considered here, there is a dichotomy of set-off on the one hand and counterclaim on the other hand. A comparison of the laws of counterclaim reveals that they are considerably more similar than the respective laws of set-off. In all jurisdictions, the requirements of counterclaim are entirely based on procedural law. The effect of counterclaims is also similar: if the judge approves of a counterclaim, the latter takes effect as at the date of judgment, not earlier.599 Apart from ‘technical’ procedural aspects, all counterclaims require connectivity. Connectivity is to be given a broad interpretation, including not only situations where the claims arise out of the same contract, but also cases where the claims stem from different contracts as long as these are linked to each other. That counterclaims are quite comparable with each other may be due mainly to two reasons. The first one is that counterclaim is a device that developed relatively late. It was not influenced by Roman law. Thus, the common classification of legal systems into a civil law and a non-civil law part is eliminated. The second reason is that counterclaim is strictly procedural: it constitutes a device by 598 See Kaufmann-Kohler, Gabrielle, ‘Globalization of Arbitral Procedure’ 36 Vanderbilt Journal of Transnational Law (2003) 1313, 1331. (’In international arbitration, there appears to be no uniform practice. There may be a trend to produce the evidence of legal experts, at least when none of the members of the arbitral tribunal is familiar with the applicable law. Beyond this trend, the conceptions vary.’) See also Poudret, Jean-François and Besson, Sébastien, Comparative Law of International Arbitration, 2nd edn (London: Sweet & Maxwell, 2007) para 981. 599 This is the principle, although, with regard to French judicial set-off, whether or not set-off works retroactively is unclear, see above at 55.

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which the court may consider independent cross-actions in the same proceedings. There are aspects of efficiency of proceedings to it that are virtually undisputed. In contrast, set-off as the older instrument has gained ground in the various jurisdictions earlier and has been ‘infiltrated’ by domestic legislation. Set-off is not a mere procedural device of a technical function. It leads to the extinction of two claims and therefore has an impact on the parties’ claims as such. As set-off directly affects the parties’ substantive rights, more questions as to its admissibility are raised than with regard to counterclaim with its mere technical approach. The parallel of set-off and counterclaim allows for a further observation. The history of set-off shows that, over the centuries, it has usually developed from a procedural instrument to a device of substantive law.600 With respect to Roman law, qualifying compensatio of late Roman times as substantive would go too far; but considerable relaxation in procedural restrictions is noticeable. The shift from procedural to substantive set-off is also evidenced by the history of English law. The roots of set-off are clearly procedural (statutory set-off), whereas equitable set-off has developed more and more into a self-help device of substantive law. Although statutory and equitable set-off co-exist, the practical relevance of the latter has overtaken that of statutory set-off, thereby revealing a tendency towards a substantive rather than a procedural understanding of set-off. The gap left in procedural law by the shift of set-off from a procedural to a substantive instrument has to some extent been replaced by the device of counterclaim.

B Broad Spectrum of Complex Rules i Different Operation Mechanisms Comparative literature tends to simplify. It does so in order to enable a systematisation, classification, and evaluation of the results. Accordingly, with regard to set-off, it has often been stated that English law of set-off is procedural, that French set-off operates ipso iure and Germanic set-off via unilateral informal declaration.601 These comments are not wrong, but they are clearly an oversimplification. The three models exist, though with several variations, exceptions and nuances.

600 See also Bucher, Eugen, ‘Rechtsvergleichende und kollisionsrechtliche Bemerkungen zur Verrechnung (‘Kompensation’)’, in Stoffel, Walter and Volken, Paul (eds), Conflits et harmonisation – Kollision und Vereinheitlichung – Conflicts and Harmonization, Mélanges en l’honneur d’Alfred E von Overbeck à l’occasion de son 65ème anniversaire (Fribourg: éditions universitaires, 1990) 701, 705. 601 See, eg, Schack, Heimo, Internationales Zivilverfahrensrecht, 5th edn (Munich: CH Beck, 2010) para 354; Zimmerli, Verrechnung (above n365) 57 et seq.

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The ipso iure Operation

From the concept of ipso iure, for instance, not much has been left other than its name. The ipso iure-group comprises the French and French-based set-offs settled in the Civil Code (compensation légale; compensazione legale). Austria with its ipso iure-implication in paragraph 1438 ABGB has taken leave from this concept long ago. Under the ipso iure approach, set-off is assumed to occur automatically as soon as the two claims are eligible for set-off. However, as has been shown, the representatives of the ipso iure-model have joined either the declaration system (Italy, at least partially) or the judicial system (France). In both countries, legal practice has perverted the ipso iure-mechanism. It is virtually undisputed that an assertion of the existence of a set-off situation is required.602 Therefore, it no longer seems appropriate to consider the ipso iure-mechanism as a model of its own. French literature itself emphasises that the only practical relevance of automatic set-off is its retroactive effect.603 The ex-tunc-effect may be an important aspect;604 however, it does not change the fact that the ipso iure-operation of set-off as such has practically disappeared. It is actually on an international level that the ipso iure concept is still noticeable as a category of its own. First, foreign courts and arbitral tribunals have read the French and Italian provisions on the ipso iure-extinction of countervailing debts literally and have in fact assumed that set-off takes place automatically at the time the debts were eligible for set-off.605 A second place where the ipso iure model makes itself felt is on the conflict of laws level. As will be shown, the idea of an automatic extinction of countervailing claims has coined specific choice-of-law rules.606 Consequently, it may occur that, as long as the French Code Civil and its look-alikes read ‘ipso iure’, this is taken literally. However, from an academic perspective, the ipso iure-operation is merely relevant to explain certain features of French and French-based law of set-off but does not constitute a separate category of operation of set-off. b

The Self-help or Declaration Mechanism

The self-help system encompasses the Germanic jurisdictions. The focus of this comparative survey has been on Germany and Switzerland. In Austria, although the original point of view was that set-off takes place automatically at the time the claims are eligible for set-off (paragraph 1438 ABGB), today’s practice unanimously requires a unilateral, extra-judicial declaration of set-off. Further 602

See above at 45−47, 60−61. Malaurie, Aynès and Stoffel-Munck (above n116) para 1191; Baudry-Lacantinerie and Barde (above n6) para 1861. 604 See, in particular, below at 211−14. 605 See Award of the Bulgarian Court of Arbitration, 5 February 1966, JDI (Clunet) 1967, 174, 175; Hartley, Trevor, ‘Case review of the decision of 13 July 1995 of the European Court of Justice’ 21 European Law Review (1996) 167, 168. 606 Below at 146−50. 603

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exponents of the declaration system are English abatement and English equitable set-off. For Italy, the situation is somewhat unclear: whereas it is undisputed that a set-off will not be taken into account unless asserted by one of the parties, authors cannot agree on the modalities of assertion. For some, an assertion outside judicial proceedings suffices, which makes it part of the declaration group. Others require a judicial assertion of set-off, which renders Italian set-off into a judicial instrument. c

The Judicial Mechanism

The English law of set-off is typically marked as procedural. However, this holds true only for statutory set-off. Equitable set-off and abatement, which exist in parallel, are both substantive law devices. With the increasing popularity of equitable set-off, the assumption that (the entire) English law of set-off is procedural is even less justified. English law provides for three forms of set-off of which only one operates judicially, namely statutory set-off.

ii Requirements of Set-off in Comparison Accepting that the idea of ‘one law, one set-off concept’ must be abandoned and that the situation is considerably more complicated, gives way to a more complex picture. The complexity relates not only to the question as to how set-off operates, but also to the set-off requirements. Each legal system depicted here requires reciprocity of the primary claim and the cross-claim. However, the answer to whether the claims are indeed reciprocal must be found in the respective domestic provisions. Investigation of legal areas which are typically ‘domestic-flavoured’ is required. This leads to a ‘nationalisation’ of the requirement of reciprocity. The same holds true in relation to the requirement of similarity. Although all laws considered here require similarity of the claims, the exact meaning of ‘similarity’ varies. Arguably, the most insignificant difference in this respect is that, under the civil law countries, claims relating to obligations of a similar kind are considered to be ‘similar’, whereas English law of set-off allows for a set-off of monetary claims only. Of greater practical importance are the differences as to whether monetary claims expressed in different currencies may be set off against each other. There still is no general unanimity. Explainable differences exist with regard to whether the claims must be enforceable. Judicially operating set-off concepts such as English statutory set-off require the enforceability of both claims. The same applies to French set-off due to the understanding of set-off as an automatism. The laws adhering to the declaration system emphasise the self-help character of set-off and thus require enforceability of the cross-claim only. Even more interesting are the results of the comparative overview in relation to liquidity and connectivity. Roman law used these criteria as discretionary tools in the hands of the court. In some of the modern jurisdictions, liquidity and

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connectivity do not matter with regard to set-off, for instance in Switzerland. In France and French-based laws, liquidity is regarded as a substantive requirement for set-off. Still other laws consider liquidity and connectivity as procedural criteria which ensure that the set-off defence will be heard in the same trial as the primary claim. This holds true for Germany and Austria. Liquidity and connectivity matter also in English law. Roughly speaking, statutory set-off requires liquidity of both claims, although no connectivity, whereas equitable set-off requires connectivity, although no liquidity. From a legal practitioner’s viewpoint, it would be fatal to assume that other laws ought to be comparable to one’s own law with respect to liquidity and connectivity—they are not. The brake shoe in the laws of set-off are the provisions prohibiting set-off for various reasons. There are national differences—not so much in wording but in applying the rules of exclusion. Case law in each jurisdiction has weaved a thicket that is difficult to see through.

iii Possible Effects of Set-off Finally, the effect of set-off also differs in the various laws. In the civil law countries considered here, the time at which a set-off takes effect has expressly been settled, providing that the relevant point in time is the date the claims became eligible for set-off. However, criticism against this retroactivity has made the ground shaky. Even more unclear is the situation in England, in particular with regard to equitable set-off.

C Conclusions The first part of the book has pointed out the salient features of selected laws of set-off, drawn the international lawyer’s attention to the variety of existing concepts, and alerted to the difficulties arising out of this plenitude. Set-off defences in cross-border transactions show a wide diversity, both within one and the same jurisdiction as well as on an international level. Many set-off laws have editorial deficits. The language of Austrian law of set-off originates from the early nineteenth century, which complicates the reading and understanding of the provisions in the ABGB. Taking the approach of being as precise as possible in the German BGB leads to similar problems. For a foreigner, although English case law may be picturesque and illustrative, it can also be hard to see through because of the length of its decisions, the number of recorded judicial opinions, and the existence of dissenting opinions. What is certainly true for all set-off laws depicted here is that the mere description of the legal provisions without interpretation aids will be misleading. To mention just two examples, the wording of Article 120 of the Swiss Code of Obligations requires enforceability of both claims, although enforceability of the cross-claim will suffice. A similar example is Article 440 of the Greek Civil Code.

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The differences in the various laws hamper the exercise of a right of set-off, not only on a domestic level, but also, and particularly, in an international context. Of course, divergent legal systems will always complicate the application of legal rules in cross-border transactions. On the international parquet, it is a given that the parties, their lawyers, the judges, and the arbitrators will have to deal with concepts, instruments, and principles that are foreign to their own legal background. However, with regard to set-off, the awkwardness of different rules is particularly striking. Set-off is usually not in the foreground of an international transaction; it is a byproduct, a defence that may crop up in the course of the commercial relationship. It is therefore not surprising that set-off is not specifically dealt with when setting up a contract, unless the latter involves bi- or multilateral set-off agreements. Still, once countervailing claims arise, one could not think of a mechanism that is simpler and more efficient than set-off in order to avoid costly and time-consuming back-and-forth payments. The parties may then experience a disagreeable surprise: the allegedly easiest and most normal thing to do in case of countervailing claims will prove to be an instrument which is subject to highly diverging and often unfathomable domestic rules. If set-off can take on several forms within one and the same jurisdiction, how is a party to know whether and how to set off if a case could be governed by more than one law? What are the requirements that must be fulfilled, and what constraints must be observed? What is the manner in which set-off is effected—can it be exercised off court, or is judicial help necessary? Finally, what are the consequences of a set-off—are its effects backdated to the date of their first-time eligibility for set-off, or does set-off have effect only for the future? As will be shown in subsequent chapters, courts, arbitral tribunals, and legal commentary have developed various mechanisms to answer the question of which law determines the requirements, operation, and effect of a set-off.

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3 Set-off in the Conflict of Laws

The following chapters will address the question of how the divergent set-off patterns may be satisfyingly dealt with on a choice-of-law level. Special attention will be paid to the choice-of-law question regarding set-off in international commercial arbitration, as arbitration plays a major role in the dispute resolution of international commercial cases. For the purpose of the following analysis, the question is raised of how arbitral tribunals may determine the law on the merits (section I). The focus will then be on the most prominent choice-of-law rules relating to set-off in classic conflict of laws (section II). These traditional choice-of-law rules should serve as guidelines in the search for a respective rule in international arbitration. The most important criteria for assessing the suitability of a law-determination rule will be discussed next (section III). The various traditional conflicts rules for a set-off shall then be tested as to their usefulness in international arbitration (section IV). Further approaches to determine the law of set-off specifically developed in international arbitration will be analysed (section V), followed by a summary (section VI).

I. Determination of the Applicable Law in International Arbitration A Development and Current Theories i Application of the Lex Loci Arbitri The incipiencies of choice-of-law issues in international arbitration do not differ considerably from that before state courts. However, enormous advances can be observed in international arbitration with which classic conflict of laws doctrines have not kept pace. Some decades ago, in the middle of the last century, the dominant regime was the presumption that, in choosing the seat of the arbitration, the parties intended to submit to the substantive law of the place of the arbitration, pursuant to the adage ‘qui eligit judicem eligit ius’. This doctrine

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mirrors the lex fori approach of classic conflict of laws1 and was followed in France, Germany,2 and, above all, England.3 Outside Europe, it was most notably the American Restatement (Second) Conflict of Laws of 1971 which proposed the rule of the application of the substantive law of the arbitration’s seat.4 In England, a decision of the House of Lords of 1970 softened the rule by regarding the choice of the seat no longer necessarily as an implication, but as a mere indication of the parties’ intention to submit the merits to the law of the seat.5 This softened rule has continued to be applied in a number of arbitrations conducted in England.6 The approach is still upheld, for instance, in some Islamic states, where national arbitration legislation sometimes prescribes application of the Shari’a or similar principles by arbitral tribunals.7 In the other countries considered here, this approach no longer appears to have any significance.8

1

See thereto below at 139−41. Decision of the BGH, 5 December 1966, RIW (1967) 108, 109 (‘In agreeing on an arbitral institution, the parties also agree on the application of the substantive law in force at its seat.’ In casu, choice of London as arbitral seat constituted choice of English substantive law); decision of the OLG Hamm, 15 November 1994, XXII YB Comm Arb (1997) 707 (choice of Zurich as arbitral seat constituted choice of Zurich cantonal law). 3 Hamlyn & Co v Talisker Distillery [1894] AC 202 (House of Lords) (selection of London as arbitral seat constitutes choice of English law); Spurrier v La Cloche [1902] AC 446 (House of Lords) (selection of London as arbitral seat constitutes choice of English law); Kwik Hoo Tong Handel Maatsohappij v James Finlay & Co [1927] AC 604 (House of Lords) (selection of London as arbitral seat constitutes choice of English law); NV Vulcaan v A/S Ludwig Mowinckels Rederi [1938] 2 All ER 152 (House of Lords) (selection of London as arbitral seat constitutes choice of English law). For a more recent case see Tzortzis and Sykias v Monark Lines A/B [1968] 1 Lloyd’s Rep 337 (CA): a contract concluded in Sweden for the sale of a ship by Swedish sellers to Greek buyers, which was to be performed in Sweden, had no connection whatsoever with English law except that it contained a clause providing for arbitration in London; the Court of Appeal held that English law were applicable, the arbitration clause ‘rais[ing] an irresistible inference which overrides all other factors’ (Salmon LJ, at 413); see also Norske Atlas Co v London General Ins Co [1927] 2 Lloyd’s Rep 104; Czarnikow v Roth, Schmidt & Co [1922] 2 KB 478, 488; see also Born, Gary B, International Commercial Arbitration (The Netherlands: Wolters Kluwer, 2009) 2122–2123; Hill, Jonathan, International Commercial Disputes in English Courts, 3rd edn (Oxford: Hart Publishing, 2005) 647–48; Collins, Lawrence (general ed), Dicey, Morris and Collins on Conflict of Laws, 14th edn, Vols I and II (London: Sweet & Maxwell, 2006) para 16–010. 4 Restatement (Second) Conflict of Laws (1971), para 218 comment b: ‘Provision by the parties in a contract that arbitration shall take place in a certain state may provide some evidence of an intention on their part that the local law of this state should govern the contract as a whole. This is true not only because the provision shows that the parties had this particular state in mind; it is also true because the parties must presumably have recognized that arbitrators sitting in that state would have a natural tendency to apply its local law.’ 5 Compagnie Tunisienne de Navigation SA v Compagnie d’Armement Maritime SA [1971] AC 572: arbitration clause choosing London as the seat did not necessarily imply that the contract was submitted to English law, but was only an indication in that direction. In the case at hand, the indication was not as strong as to prevent the application of French law. 6 See, eg, The SLS Everest [1981] 2 Lloyd’s Rep 389, CA; The Mariannina [1983] 1 Lloyd’s Rep 12; Deutsche Schachtbau- und Tiefbohrgesellschaft mbH v Shell International Petroleum Co Ltd [1990] 1 AC 295; Egon Oldendorff v Libera Corporation [1996] 1 Lloyd’s Rep 380; Sonatrach Petroleum Corp v Ferrell International Ltd [2002] 1 All E R (Comm) 627. 7 Syrian and Libyan Civil Code, art 1(2) (‘In the absence of an applicable legal provision the judge shall decide in accordance with the principles of the Islamic Shari’a, and in the absence of these, in accordance with custom. In the absence of custom, the Judge will apply the principles of natural 2

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ii Application of the Conflict of Laws Rules Which the Tribunal Considers Appropriate a

Development

A transition to a considerably more flexible approach was brought about by the 1961 European Convention, which not only established the freedom of the parties to choose the applicable law, but also of the arbitrators to apply, in the absence of such choice, the rule of conflict that they deem applicable.9 The new approach was embraced by the ICC Rules of 1988 and the UNCITRAL Arbitration Rules of 1976. With the embodiment of the freely determinable conflict of laws rule by the UNCITRAL Model of 1985,10 this rule has become well established both in institutional arbitration rules11 and national arbitration statutes.12 This approach contemplates three separate decisions by the arbitrators: (a) selection of the appropriate choice of law rules; (b) application of chosen choice-of-law rules to select the applicable substantive law rules; and (c) application of chosen substantive law rules to the merits of the parties’ dispute. This law and the rules of equity.’); United Arab Emirates Federal Law No 11 of 1992 Issuing the Law of Civil Procedure, art 206(1) (‘In the absence of a text in this Code, the Courts shall resort to Moslem Shari’a and choose the most adequate solutions amongst those taught by the Hanbali and Maleki doctrines. Failing them, they shall resort, as need may be, to the Shafi’s and Hanafi doctrines.’). These provisions are sometimes held to govern choice-of-law questions in international arbitration, cf Federal Law No 11, ch 3, art 212(2) (‘The arbitral award must be in conformity with the provisions of law, unless the arbitrator was authorised by the parties to act as an amiable compositeur […]’); see Kutty, Faisal, ‘The Shari’a Factor in International Commercial Arbitration’ 28 Loyola of Los Angeles International and Comparative Law Journal (2006) 565, 614. 8 See, eg, Award in ICC Case No 3540, YB Comm Arb VII (1982) 124, 127, JDI (Clunet) 1981.913, 916, where the arbitral tribunal rejected the rule as old-fashioned; SCC Case 117/1999, Stockholm Arbitration Report 59 (2002); Award in ICC Case No 7375, 11 ICC Ct Bull (2001) 37. see also Petrochilos, Georgios C, ‘Arbitration Conflict of Laws Rules and the 1980 International Sales Convention’ 52 Revue Hellénique de Droit International (1999) 191–218 (‘a reasoning according to which an arbitration clause imports a choice of law as a matter of irresistible or irrebuttable presumption is largely outdated’); Poudret, Jean-François and Besson, Sébastien, Comparative Law of International Arbitration, 2nd edn (London: Sweet & Maxwell, 2007) para 677 (p 572); Born, International Commercial Arbitration (above n3) 2123 et seq. 9 Article VII(1) of the European Convention states that ‘failing any indication by the parties as to the applicable law, the arbitrators shall apply the proper law under the rule of conflict that the arbitrators deem applicable.’ 10 cf art 28(2) of the UNCITRAL Model Law: ‘Failing any designation by the parties, the arbitral tribunal shall apply the law determined by the conflict of laws rules which it considers applicable.’ 11 See, eg, art 32(1) of the Arbitration Rules of Chicago International Dispute Resolution Association (CIDRA), (‘apply the law determined by the conflict of laws rules which it considers applicable’); art 30(1) of the Inter-American Commercial Arbitration Commission Rules; art 33(1) of the Cairo Regional Centre for International Commercial Arbitration (CRCICA). 12 Section 28(2) of the Danish Arbitration Act of 2005 (‘apply the law determined by the conflict of law rules which is considers applicable’); art 28(2) of Greek Law 2735/1999—International Commercial Arbitration (‘apply the law determined by the conflict of laws rules which it considers applicable’); art 28(2) of the New Zealand Arbitration Act of 1996 (‘apply the law determined by the conflict of laws rules which it considers applicable’).

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approach grants the arbitral tribunal broad power to apply a system of conflict of laws rules that it concludes is most appropriate to the case.13 Various methods have been developed in this respect. b Application of the Choice-of-law Rules at the Seat of Arbitration The first method consists in applying the choice-of-law rules of the seat of the arbitration. This is the method still largely followed in England and the common law countries.14 F.A. Mann, one of the most respected choice-of-law scholars of the twentieth century, has put it as follows: In the legal sense, no international commercial arbitration exists. Just as, notwithstanding its notoriously misleading name, every system of private international law is a system of national law, every arbitration is a national arbitration, that is to say, subject to a specific system of national law. […] [E]very arbitration is necessarily subject to the law of a given state. […] The law of the arbitration tribunal’s seat initially governs the whole of the tribunal’s life and work. In particular, it governs the validity of the submission, the creation and composition of the tribunal, the rules of the conflict of laws to be followed by it, its procedure, the making and publication of its award.15

This position seems fairly outdated today. The modern trend is to recognize that any perceived obligation to apply the choice of law rules of the seat stems from a false comparison of the seat of an arbitral tribunal with a judicial forum. A national court judge must apply the conflicts rules of the forum. […] The international arbitrator’s powers, on the other hand, are derived from an arbitration agreement, and an arbitrator does not exercise public or institutional power in the name of the State.16

The application of the conflict of laws rules of the situs of the arbitration has been said to improperly equate an international arbitral tribunal to a local court and has continuously been rejected as a rule to determine the applicable law in the last decades.17 Whether such equation is indeed inappropriate is subject to discussion below.18

13

Born, International Commercial Arbitration (above n3) 2135. English Arbitration Act 1996, 46(3), stating that the tribunal shall apply the law determined by the conflict of laws rules which it considers applicable, is usually read as to provide for the application of the conflict of laws rules of English law, cf Poudret and Besson (above n8) para 687 (p 584). 15 Mann, FA, ‘Lex Facit Arbitrum’, in Sanders, Pieter (ed), International Arbitration, Liber Amicorum for Martin Domke (The Hague: Martinus Nijhoff, 1967) 157–83 (reprinted in 2 Arb Int (1986) 241–61) 241, 244–45, 248. 16 Craig, W Laurence; Park, William W and Paulsson, Jan, International Chamber of Commerce Arbitration, 3rd edn (Dobbs Ferry, New York: Oceana Publications, 2000) 322. 17 See Award in ICC Case No 2930, IX YB Comm Arb (1984) 105 (‘[T]he most authoritative present day doctrine and international arbitration jurisprudence admit that in determining the substantive law, the arbitrator may leave aside the application of the conflict rules of the forum.’); Award in ICC Case No 6527 of 1991, XVIII YB Comm Arb (1993) 44 (refusing to apply conflict of laws rules of arbitral situs); similarly Interim Award in ICC Case No 5314, XX YB Comm (1995) 35. 18 Below at 161−67. 14

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Cumulative Application of All Conflicts Rules Involved in the Dispute

Another way to apply the ‘appropriate conflicts rule doctrine’ is the cumulative application of rules of conflict. Under this doctrine, the arbitral tribunal considers all choice-of-law rules potentially applicable in the case at hand and decides the case under that substantive law to which all of the conflicts rules involved lead. An illustrative example is the interim award in ICC Case No 5314 of 1995.19 The dispute arose out of a licence agreement. The parties left it to the arbitral tribunal to decide on the applicable law. The tribunal considered all conflicts rules with a relation to the dispute, that is, (a) the choice-of-law rules of Switzerland as the country of the seat of the arbitration proceedings; (b) the conflict of laws rules of the United States in general and of Massachusetts in particular, as the state of incorporation of the claimant; and (c) the conflicts rules of Italy as the state of incorporation of the defendant. It was then examined how each of the conflicts rules determined the applicable law, which in casu occurred according to the ‘closest connection test’ (under the closest connection approach, the law of the place applies with which the case has the closest relation). The tribunal concluded that the closest connection of the case was to the United States and to Massachusetts in particular, and applied the law of the State of Massachusetts.20 d

Application of ‘General Principles of Private International Law’

A third method of applying the ‘appropriate conflict of laws rules’ is the application of ‘general principles of private international law’ or ‘transnational rules of conflict’, inferred by a comparative law analysis of the various systems or enshrined in international conventions such as the Rome Convention 1980.21

19 Interim Award in ICC Case No 5314, XX YB Comm (1995) 35. For further illustration see, eg, Award in ICC Case No 6281, Collection of ICC Arbitral Awards II: 1986–1990, 394. 20 Interim Award in ICC Case No 5314, XX YB Comm (1995) 35, 39. 21 Award in ICC Case No 6379, XVII YB Comm Arb (1992) 212; Award in ICC Case No 1717, in S Jarvin and Y Derains, Collection of ICC Arbitral Awards 1974–1985 (1972) 191; Award in ICC Case No 2680, in S Jarvin and Y Derains, Collection of ICC Arbitral Awards 1974–1985 (1977) 334; Award in ICC Case No 7197, 120 JDI (Clunet) 1993.1028 (tribunal found indices of an implied choice of Austrian law (seller’s law) and confirmed this finding by referring to ‘general rules’ of conflicts); Award in ICC Case No 2930, IX YB Comm Arb 105 (1984); Award in ICC Case No 3316, in S Jarvin and Y Derains, Collection of ICC Arbitral Awards 1974–1985 (1990) 88; Award in ICC Case No 4237, X YB Comm Arb 52 (1985); Award in ICC Case No 5717, 2 Bull Civ 22 (1990); Award in ICC Case No 4650, in S Jarvin and Y Derains, Collection of ICC Arbitral Awards 1986–91 (1994) 68. cf also Born, International Commercial Arbitration (above n3) 2143 et seq; Gaillard, Emmanuel and Savage, John (eds), Fouchard, Gaillard, Goldman On International Commercial Arbitration (The Hague etc: Kluwer International, 1999) n1548–49; Derains, Yves, ‘La jurisprudence des arbitres du commerce international en matière de détermination du droit applicable au contrat’ RDAI (1996) 514, 524 et seq; Gaillard, Emmanuel, ‘Trente ans de lex mercatoria. Pour une application sélective de la méthode des principes généraux du droit’ Journal du Droit International (Clunet) (1995) 5, 24.

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iii Application of the (Substantive) Law Which the Tribunal Considers Appropriate a

The Principle

In the meantime, a considerable number of arbitration rules have adopted even more flexible rules. They do not engage in a conflict of laws analysis at all, but rather designate the applicable law directly (so-called voie directe approach). In contrast to the European Convention and the UNCITRAL Arbitration Rules, the freedom of the arbitrators relates to the applicable substantive law directly, and not to the choice of the rule of conflict. The Swiss international arbitration law is one such example, stating that, in the absence of a parties’ agreement on the applicable law, ‘[t]he arbitral tribunal shall decide the dispute […] according to the rules of law with which the case has the closest connection.’22 It thereby grants the tribunal the authority to directly apply substantive rules of law, although it limits this possibility by the requirement that the rules of law be ‘closely connected to the case’. Other national arbitration laws23 and institutional arbitration rules24 have adopted similar statutory provisions. The tendency in recent times, however, has been to allow the tribunal to apply whatever substantive law or rules of law it deems appropriate, without limiting this choice to any closest connection requirements. This approach has been embodied, for example, by institutional rules such as the ICC Rules of 1998,25 the LCIA, ICDR and WIPO Rules,26 and others.27 Many arbitration laws have followed suit, such as those of France, Hungary, and the Netherlands.28

22

Article 187(1) of the SPILS. Paragraph 1051(2) of the German ZPO (‘Failing any designation by the parties, the arbitral tribunal shall apply the law of the State with which the subjectmatter of the proceedings is most closely connected.’); art 28(1)(b)(iii) of the Indian Arbitration and Conciliation Act (‘apply the rules of law it considers to be appropriate given the circumstances surrounding the dispute’); art 39(2) of the Egyptian Arbitration Law of 1994 (‘the substantive rules of the law it considers most closely connected with the dispute’); art 834 of the Italian Code of Civil Procedure; art 1445 of the Mexican Commercial Code. 24 Article 23(2) of the DIS Rules (‘apply the law of the State with which the subject-matter of the proceedings is most closely connected’); art 33(1) of the Swiss Rules (‘applying the rules of law with which the dispute has the closest connection’). 25 Article 17(1) of the ICC Rules 1998 (‘In the absence of [a parties’] agreement, the Arbitral Tribunal shall apply the rules of law which it determines to be appropriate’). 26 Article 22(3) of the LCIA Rules; art 28(1) of the ICDR Rules; art 59(1) of the WIPO Rules. 27 Article 28(1) of the AAA International Arbitration Rules; art 46 of the Netherlands Arbitration Institute Rules; art 24(2) of the Rules of the Vienna International Arbitral Centre; art 24(1) of the Stockholm Rules; art 34.1 of the Australian Centre for International Commercial Arbitration Rules; Rules of the Chamber of National and International Arbitration of Milan (‘the law applicable to the merits of the controversies is that agreed to by the parties, or in absence thereof, that which the arbitrator shall consider applicable’). 28 Article 1496 of the French New Code of Civil Procedure provides that the arbitral tribunal may resolve the dispute ‘in accordance with the rules of law he considers appropriate’; art 1054(2) of the Netherlands Act (‘in accordance with the rules of law it considers appropriate’); para 49(2) of the Hungarian Act on Arbitration (‘the applicable law shall be determined by the arbitral tribunal’). 23

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b Application of a Specific National Law There are variations on how to directly apply substantive law without any choice-of-law analysis. More traditional arbitration statutes or arbitration rules require the tribunal to apply the law of a specific state, for example, Dutch, English, or German law. This includes the application of conventions that have entered into force, such as the UN Convention on the International Sale of Goods (CISG) or the UN Convention on the Carriage of Goods by Sea (Hamburg Rules). It is, thus, ‘hard law’ which is applied, as opposed to ‘soft law’, which has no binding force. The arbitral tribunal’s freedom to choose the applicable substantive legal provisions is limited to national or unified laws. c Application of More Than One National Law (tronc commun) Another approach has been proposed in the last few decades and has, though infrequently, been applied in arbitration practice.29 The tronc commun doctrine requires that the arbitral tribunal compare all laws involved in the dispute, such as the parties’ respective laws, the law at the place of conclusion of the contract or of performance, the lex loci arbitri, etc. It is then, in a second step, required that those provisions be applied to the case which are common to all laws. The expression ‘tronc commun’ refers thus to the common trunk of the laws tangent to the case.30 For those parts of the dispute that are not covered by the tronc commun, the arbitral tribunal should base itself ‘on the general principles of the legal systems of the parties, on their previous usages and, in their absence, on the usages prevailing in their countries.’31 d

Application of A-National Rules of Law

The voie directe approach has sometimes also led to the application of ‘general principles of contract law’, the ‘lex mercatoria’, ‘universally acknowledged rules

29 Award in ICC Case No 2886, Clunet 1978.996 (‘lex mercatoria’); Award in ICC Case No 3327, Clunet 1982.97; see also Channel Tunnel Group Ltd and France Manche SA v Balfour Beatty Construction Ltd et al [1993] AC 334 (‘The construction, validity and performance of the contract shall in all respects be governed by and interpreted in accordance with the principles common to both English law and French law and in the absence of such common principles by such general principles of international trade law as have been applied by national and international tribunals. […]’). 30 The tronc commun method has been particularly advocated by Rubino-Sammartano, Mauro, International Arbitration, 2nd edn (The Hague, London, Boston: Kluwer Law International, 2001) 136 et seq; Rubino-Sammartano, Mauro, ‘Le ‘Tronc Commun’ des lois nationales en présence (réflexions sur le droit applicable par l’arbitre international)’ Revue de l’Arbitrage (1987) 133 et seq; RubinoSammartano, Mauro, ‘The Channel Tunnel and the Tronc Common Doctrine’ 10 Journal of International Arbitration (1993) 59 et seq; see also Poudret and Besson (above n8) para 687 (p 584); Craig, Park and Paulsson (above n16) 326 et seq; Redfern, Alan and Hunter, Martin with Blackaby, Nigel and Partasides, Constantine, Law and Practice of International Commercial Arbitration, 5th edn (London: Sweet & Maxwell, 2009) 119 et seq. 31 Rubino-Sammartano, 10 J Int’l Arb (1993) (above n30) 59, 61.

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and principles of international law’, and the like.32 These bodies of rules are a-national or denationalised rules of law which do not belong to any particular domestic law. Domestic arbitration statutes and institutional arbitration rules differ on the question of whether the arbitral tribunal can resort to such general principles of law. The UNCITRAL Model Law requires the arbitrators to apply the ‘law’ determined by applicable choice-of-law rules,33 a formulation that has been understood as to refer to a domestic legal system or an equally binding international convention. The arbitration laws of England, Germany, and Japan are similar.34 Other jurisdictions, including Switzerland, France, Canada, but also India or Lebanon, have adopted the more flexible position that the arbitrators may select a denationalised body of rules to govern a dispute.35

B Comparison of Law-determination Methods in Arbitration and State Court Proceedings Choice-of-law issues in international arbitration differ from classic conflict of law rules in several respects. (1) In state court proceedings, the proper law will be defined through application of one’s own conflict of laws rules. The latter are part of the lex fori, and it would be legally wrong if the conflict of laws rules of the place of the state court proceeding were ignored. International arbitration has developed in another direction. Application of the choice-of-law rules of the seat of the arbitration has 32 See, eg, Award in ICC Case No 3131, IX YB Comm (1984) 109; Award in ICC Case No 10422, 130 JDI (Clunet) 2003.1142 (‘[t]he arbitral tribunal, in view of the fact that the parties apparently wanted a neutral solution, decided to apply ‘general principles and rules of international contracts, ie, the so-called lex mercatoria’); Award No 117/1999 of the Arbitration Institute of the Stockholm Chamber of Commerce, (‘the Tribunal held that the parties had deliberately refrained from agreeing on the law governing their contract […] [and] found that the dispute at hand should be decided on] the basis of such rules of law that have found their way into international codifications […]’); Award of the Arbitration Court of the Lausanne Chamber of Commerce, 31 January 2003, (‘In view of the uncertainties as to the applicable substantive law the arbitral tribunal suggested to […] choose the UNIDROIT Principles as the applicable law.’); Award in ad-hoc-arbitration, Buenos Aires, 10 December 1997, (‘Notwithstanding the fact that both parties had based their claims on specific provisions of Argentinean law, the Arbitral Tribunal decided to apply the UNIDROIT Principles.’). 33 Article 28(2) of the UNCITRAL Model Law. 34 English Arbitration Act 1996, s 46(3) (‘If or to the extent that there is no such choice or agreement, the tribunal shall apply the law determined by the conflict of laws rules which it considers applicable.’); Departmental Advisory Committee on Arbitration Law, 1996, Report on the Arbitration Bill (February 1996), at pp 49–50, nn 222–25, reprinted in 13 Arb Int’l (1997) 275, 309; para 1051(2) of the German ZPO. (‘Failing any designation by the parties, the arbitral tribunal shall apply the law of the State with which the subject-matter of the proceedings is most closely connected.’) See also art 36(1) of the Japan Arbitration Law. (‘Failing agreement as provided in the preceding paragraph, the arbitral tribunal shall apply the substantive law of the State with which the civil dispute subject to the arbitral proceedings is most closely connected.’) 35 Article 187 of the SPILS; art 28(b)(iii) of the India Arbitration and Conciliation Act; art 458 bis/14 of the Algerian Arbitration Act; art 32(1) of the Ontario Arbitration Act; art 813 of the Lebanon Arbitration Act. See also art 1496 of the French New Code of Civil Procedure.

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become outdated. Arbitral tribunals are believed to have no ‘locus’ which would precisely correspond to the ‘forum’ in state court proceedings.36 It is exactly this detachment from national judicial proceedings which makes arbitration attractive for many, as it avoids unequal positions of the parties with regard to knowledge and familiarity of the local law, procedures, and customs. The disconnection of the place of the judicial proceedings and the law applied is one of the salient features of international arbitration. (2) An arbitral tribunal enjoys considerably broader discretion as to how to determine the proper law than a state court judge. Most arbitration laws and arbitration rules allow for the arbitrators’ free choice of either the conflict of laws rules or the substantive law to be applied to the dispute. The arbitrators’ discretion is also due to the idea that an arbitration tribunal is truly international, the cases often complex, and that there were either sparse indications that would allow for a ‘closest connection test’, as it is usually foreseen in classic conflict of laws rules, or too many of them. It is sometimes also held that the arbitrator is exercising ‘a private mission, conferred contractually’,37 and that the arbitrator should, first and foremost, try to give way to the parties’ intention. Strict rules as to the determination of the applicable law certainly allow for less responsiveness to the parties’ (hypothetical) will than rules granting full flexibility. (3) Many arbitration laws and arbitration rules provide that the arbitral tribunal may directly apply the substantive law rules that it considers appropriate. The direct determination of the applicable law avoiding the detour through conflict rules is virtually unknown to classic rules of conflict used before state courts. It must, however, be noted that the voie directe approach is not entirely an invention of arbitration—there have been several attempts to introduce voie directe mechanisms in classic conflict of laws. In relation to set-off, these attempts have partially been successful, and they have led to the creation of a ‘mixed conflicts rule’ with both choice-of-law elements and elements of direct application of the substantive law. The so-called cumulative approach and the alternative approach are such examples which have been promulgated with regard to set-off in classic conflict of laws. They will be discussed in detail below.38 (4) Finally, an increasing number of arbitration laws vest the arbitrators with the right to apply denationalised rules of law instead of a particular domestic law. This possibility is virtually unknown to classic conflict of laws rules, which usually provide for the application of a specific national law. The idea underlying the ‘denationalised voie directe approach’ is, again, that arbitral tribunals have no

36 See, eg, Kaufmann-Kohler, Gabrielle, ‘Globalization of Arbitral Procedure’ 36 Vanderbilt Journal of Transnational Law (2003) 1331; Nygh, Peter Edward, Autonomy in International Contracts (Oxford: Clarendon Press, 1999) 42 et seq; Lew, Julian DM, Mistelis, Loukas A and Kröll, Stefan M, Comparative International Commercial Arbitration (The Hague etc: Kluwer International, 2003) nn 17–54; Fouchard, Gaillard and Goldman (above n21) para 433 et seq. 37 Lalive, Pierre, ‘Les règles de conflits de lois appliquées au fond du l’arbitre international siégeant en Suisse’ Revue de l’Arbitrage (1976) 155. 38 Below at 146−49, 151−52.

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nationality, that they are truly international, and that every application of a domestic law would, in principle, not be able to do justice to that international character. Having examined the different approaches to determine the applicable law in international commercial arbitration, the focus will now be on choice-of-law problems surrounding the instrument of set-off. The goal is to suggest a law-determination rule which is most suited to solve the question of the law applicable to a set-off in international arbitration.

II Law-determination for Set-off in Classic Conflict of Laws It is hardly surprising that the various legal systems have developed different methods to determine the law applicable to set-off situations. As will be shown, specific set-off-models have coined specific choice of law methods.39 The variety of national choice-of-law solutions as such is to be expected. Where set-off is concerned, however, the situation is at risk of getting worse. It will be shown that some domestic conflicts rules are old and might need to be re-thought. Some rules are too generalised and do not always do justice to all forms of set-off the respective jurisdiction may provide for. For instance, the English conflict of laws rules lump all forms of set-off (abatement, equitable set-off, statutory set-off) together and provide for one single choice-of-law model (the lex fori), regardless of the fact that the three cross-defences are (still) quite different from one another. This has led to unrealistic and impractical, if not incorrect results.40 Moreover, although a particular conflicts rule in respect of set-off may prevail in each of the jurisdictions considered here, it may be on shaky ground. Unanimity within one and the same jurisdiction is rare and only to be found within those jurisdictions that have arrived at an explicit choice-of-law rule regarding set-off, such as Switzerland. It will be shown in the following analysis, but needs to be stated from the outset, that the law governing a contract is not automatically the law governing a future set-off between the parties. The lex contractus may be the lex compensationis if both the primary claim and the cross-claim arise out of the same contractual agreement and if the applicable conflicts rule for set-off makes reference to either the law governing the primary claim or the cross-claim or 39 See also Metzger, Axel, [case review] ‘Gemeinschaftsrechtliche Kollisionsregel für die Aufrechung’ Anm zu EuGH, Juristenzeitung (2004) 87, 90 et seq. 40 Of a similar view Tetley, William, ‘The Cross-Defences (Set-off, Recoupment, Compensation and Counterclaim) and Freight in the Conflict of Laws’ in von Ziegler, Andreas and Burckhardt, Thomas (eds) Internationales Recht auf See und Binnengewässern, Festschrift für Walter Müller (Zurich: Schulthess, 1993) 253, 254. For details see below at 161 et seq.

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both. However, as will be seen, it may also be that the lex contractus bears no relevance for the determination of the law applicable to set-off despite the fact that both claims arise out of the same contract. Therefore, the choice of law with regard to a contract does not of itself constitute a choice of law with regard to set-off. Whether it does or not will always depend on the adopted conflicts theory, and as will be seen, there are plenty of these theories. The question of the law applicable to set-off is thus not settled by mere reference to the lex contractus. If the parties wish to be sure that a future set-off is governed by the law of their choice, the choice should be specifically made for set-off. In practice, such a narrowly defined choice of law is rare. The objective determination of the law applicable to set-off is thus of much higher relevance than the determination based on the parties’ agreement. As a consequence, it carries all the more weight that the number of approaches for an objective determination of the law of set-off is vast and the differences among the theories substantial. There are at least eight different approaches as to how the law applying to an international set-off is to be determined. The most prominent theories include the lex fori approach (section A), the application of the law governing the primary claim (section B), the so-called cumulative approach (section C) and some others (section D). It should be borne in mind that these are theories developed in classic conflict of laws. They often will have a ‘domestic flavour’, a narrow perspective which is based on one’s own understanding of set-off. This does not necessarily mean that these theories are unsuitable as a uniform rule for use in international arbitration. They will have to be tested against the demands of law determination in international arbitration (see below section IV).

A Application of the Lex Fori Some jurisdictions determine the law applicable to an international set-off according to the principle of lex fori. That is, the law of the place of the court governs the set-off. The application of the lex fori is widely recognised for procedural law. Questions of a procedural character are to be resolved according to the law applicable at the place of the court proceedings. This is the principle of ‘forum regit processum’.41 Accordingly, the purely procedural instrument of a

41 Spiro, Erwin, ‘Forum Regit Processum (Procedure Is Governed by the Lex Fori)’, 18 International Commercial Law Quarterly (1969) 949 et seq; Dicey, Morris and Collins (above n3) para 7–002 (‘The principle that procedure is governed by the lex fori is of general application and universally admitted.’); Mayer, Pierre and Heuzé, Vincent, Droit international privé, 9th edn (Paris: Editions Montchrestien, 2007) para 492 et seq.

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counterclaim42 is regularly subjected to the law at the place of the court proceedings.43 In the past, English lawyers have given ‘the widest possible extension to the meaning of the term “procedure”.’44 In recent times, this observation does not need be as assertively put. It is now recognised that an extensive application of the lex fori rule goes against the universal endeavour to provide for a general choice-of-law fairness,45 and the lex fori approach has been loosened.46 However, to begin with the traditional view, English and English-based law has generally regarded set-off as an instrument of procedural law, and, accordingly, have preponderantly held that the lex fori shall govern it. This view is taken with regard to set-off in England (section i) and in the USA (section ii).

i England For a long time, the lex fori was the one and only choice-of-law rule for set-off in England. This may come as a surprise given its generality. As shown, English set-off consists of several types of set-off, whereas only statutory set-off is held to operate judicially today.47 Nonetheless, English law as well as English-based legal systems have traditionally grouped statutory set-off, equitable set-off, abatement and counterclaim together as ‘cross-defences’ and have subjected them all to the lex fori.48 In recent times, the strict application of the law of the forum has been criticised.49 The increasing perception is emphasised that the lex fori approach may indeed be appropriate for a statutory set-off, which is technically speaking a claim raised by the defendant at the trial in order to defend itself against the

42 See above at 123; see also, eg, South African Republic v Compagnie Franco-Belge de Chemin de Fer du Nord [1897] 2 Ch 487, CA; Dicey, Morris and Collins (above n3) para 7–032; for older literature see, eg, Sacerdoti, Adolfo, ‘Des conflits de lois en matière de compensation des obligations’ Journal Droit International (Clunet) (1896) 57, 58; Dölle, Hans, ‘Die Kompensation im internationalen Privatrecht‘ 13 Rheinische Zeitschrift für Zivil- und Prozessrecht (1924) 32, 37; Zitelmann, Ernst, Internationales Privatrecht, Vol 2 (Munich, Leipzig: Verlag von Duncker & Humblot, 1912) 248. 43 Batiffol, Henri and Lagarde, Paul, Droit international privé, Vol II, 7th edn (Paris: R Pichon et R Durand-Auzias, 1983) para 614; Mayer and Heuzé (above n41) para 749 para 88 (‘La compensation judicaire est nécessairement soumise à la lex fori.’) (emphasis in the original); Niboyet, Jean Paulin, Traité de droit international privé, tome V (Paris: Recueil Sirey, 1948) 137; Stolzke, Sebastian, Aufrechnung und Widerklage in der Schiedsgerichtsbarkeit (Cologne: Carl Heymanns Verlag, 2006) 41; Sacerdoti, JDI (Clunet) 1896 (above n42), 57, 58; Despagnet, Frantz, Précis de droit international privé, 5th edn (Paris : Sirey, 1909) para 316. 44 Dicey, 1st edn, p 712, quoted in Dicey, Morris and Collins (above n3) para 7–003. 45 See, eg, Harding v Wealands [2004] EWCA Civ 1735, [2005] 1 WLR 1539, at [52], per Arden LJ. 46 This is an observation also made, eg, by Lando, Ole, International Encyclopedia of Comparative Law, Chapter 24: Contracts, (Tübingen etc: JCB Mohr, 1976) para 225. 47 Above at 121−23. 48 See, eg, Maspons y Hermano v Mildred, Goyeneche & Co (1882) 9 QB 530, CA (aff ’d without reference to this point (1883) 8 App Cas 874); see also Cheshire, North and Fawcett, 95. 49 Dicey, Morris and Collins (above n3) para 7–032; Wood, Philip R, English and International Set-Off (London: Sweet & Maxwell, 1989) para 23–7.

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action. However, the lex fori approach is rejected with regard to abatement and equitable set-off, which are extra-judicial self-help instruments and therefore substantive in nature.50 According to this modern approach, not only the English substantive law of set-off, but also English choice-of-law rules should differentiate between the various forms of set-off. Indeed, some older English cases seem to support the view that, where set-off is of a substantive nature, the conflict of laws rule is that of the lex causae.51 It must be added at the same time that, since the lex fori and the lex causae were the same in each case, the differentiation was, in the end, irrelevant. Apart from those few decisions, English case law has been very strict in its lex fori approach.52

ii United States In the USA, set-off was for a long time regarded as an instrument which could not possibly be governed by any other law than the law of the forum. The lex fori approach was explicitly stated in the Restatement First (1934), paragraph 593. Until the late 1960s, American law accepted the idea that matters that could be asserted by way of set-off or counterclaim were ‘so much a part of the forum’s system of judicial administration that it would be unreasonable to ask that they be laid aside in favor of another state’s system.’53 The Restatement Second (1971), paragraph 128, which is still the current version of a conflict of laws restatement in the United States, has attenuated the strict lex fori approach. It states: Set-off, Counterclaim or Other Defense. The forum will apply its own local law in determining whether a claim may be pleaded by way of set-off, counterclaim or other defense unless under the otherwise applicable law the defendant’s claim, if allowed, would operate to qualify the plaintiff ’s claim in whole or in part. In the latter event, the defendant will be permitted to plead his claim as a defense.

Basically, Restatement Second, paragraph 128, maintains the lex fori approach. However, exceptions from this principle are made if ‘the otherwise applicable law’ would operate to invalidate or destroy the plaintiff ’s claim in whole or in part. In other words, Restatement Second gives priority to the lex causae if that law is more favourable to set-off than the lex fori.54 Hence, Restatement Second, paragraph 128, is a representative of the lex fori theory; however, it leaves room for substantive considerations which may lead to another law.

50

Above at 121−23. MacFarlane v Norris (1862) 2 B & S 783, 792 et seq; Allen v Kemble (1848) 6 Moo PC 314; Meridien BIAO Bank GmbH v Bank of New York [1997] Lloyd’s Rep 437, CA. 52 Maspons y Hermano v Mildred, Goyeneche & Co (1882) 9 QB 530, CA, where the court, without further explanations, applied English law to a set-off between a Spanish and an English party. 53 Leflar, Robert A, ‘Choice-Influencing Considerations in Conflicts law’ 41 New York University Law Review (1966) 267, 324. 54 McDougal, Luther L, III, Felix, Robert L and Whitten, Ralph U, American Conflicts Law, 5th edn (Ardsley, New York: Transnational Publishers, 2001) para 111 (p 407). 51

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B Application of the Law of the Primary Claim The application of the law of the primary claim is a conflicts rule which has been adopted by Germanic jurisdictions, but has also been influential with other legal systems. It has, inter alia, been embraced by Scandinavian scholars55 and has recently also been supported in English literature for ‘set-offs […] directly attaching to the claim’.56 The Swiss conflict of laws rule shall be discussed here as being one of the first domestic laws explicitly addressing the choice-of-law question with regard to set-off (section i). The Swiss solution has also served as a model on a European level. This is shown in the new EC-Regulation on the applicable contract law (so-called Rome I Regulation), which will be dealt with below (section ii).

i Switzerland a

Principal Rule

In none of the domestic jurisdictions considered here has the conflicts rule for set-off been so precisely fixed as in the Swiss Statute on Private International Law (SPILS). The statute expressly provides that ‘[e]xtinction due to set-off shall be subject to the law governing the claim against which set-off is claimed.’ (Article 148(2) SPILS). In other words, the law governing the primary claim is to be applied to an international set-off.57 The Swiss Federal Tribunal had regularly applied this solution long before the enactment of the Statute on Private International Law in 1989,58 and its application is solidly grounded in Swiss literature.59

55 See the references in Frisch, Wolfgang, Das Internationale Schuldrecht der nordischen Länder im Vergleich zu dem Übereinkommen über das auf Schuldverträge anwendbare Recht (Frankfurt etc: Peter Lang, 1985) 137. 56 Dicey, Morris and Collins (above n3) para 7–032. 57 The expert commission who drafted the SPILS explained the rule of art 148(2) (then draft art 147(2)) with the reasoning that, since the debtor refuses to fulfil its obligation and declares set-off, the law governing the disputed claim has to state what requirements the cross-claim must fulfil in order to be eligible for set-off, see Expertenkommission, final report, 259. 58 Decision of the Swiss Federal Tribunal, 24 June 1955, DFT 81 II 175, 177 et seq; decision of the Swiss Federal Tribunal, 26 June 1951, DFT 77 II 189, 190 et seq; decision of the Swiss Federal Tribunal, 26 October 1937, DFT 63 II 383, 384 et seq. 59 Vischer, Frank, ‘Internationales Privatrecht in Gutzwiller’ in Max (ed) Schweizerisches Privatrecht I: Geschichte und Geltungsbereich (Basel and Stuttgart: Helbing & Lichtenhahn, 1969) 705; Keller and Girsberger in Girsberger, Daniel, Heini, Anton, Keller, Max, Kren Kostkiewicz, Jolanta, Siehr, Kurt, Vischer, Frank and Volken Paul (eds), Zürcher Kommentar zum IPRG, 2nd edn (Zurich: Schulthess, 2004) Article 148 SPILS para 38 et seq; Dasser in Honsell, Heinrich, Vogt, Nedim Peter and Wiegand, Wolfgang (eds), Basler Kommentar, Obligationenrecht I, Art 1–529 OR, 4th edn (Basel: Helbing & Lichtenhahn, 2007) Article 148 SPILS para 16 et seq.

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b Primary Claim Arising Out of a Contract According to the general rules of the SPILS, the applicable law is determined by the relationship from which the primary claim arises. If the primary claim arises out of a contract, the law governing the contract is also the applicable law of set-off.60 Where the primary claim and the cross-claim arise out of the same contract, the applicable law is relatively easily identified.61 If, for example, the primary claim is for repayment of a loan and the cross-claim is for damages suffered by the borrower due to breach of contractual duties of care,62 both the primary and the cross-claim stem from the same contract. It is usually stated that Article 148(2) SPILS does not apply to such a situation. Rather, the set-off involving claims out of the same contract is said to fall under the general rule of Article 148(1) SPILS, according to which the law governing a claim also governs its extinction.63 However, there are contracts that are not subject to one sole law. For instance, framework agreements may include various obligations which are all subject to another law. Article 148(2) SPILS is of significant importance in such a case, as it makes it clear that the set-off is governed by the primary claim’s law.64 The main field of application of Article 148(2) SPILS is where the debtor counters the creditor’s claim with a cross-claim originating from another contract existing between the parties, or with a cross-claim based on non-contractual remedies such as torts or unjust enrichment. c

Primary Claim Not Arising Out of a Contract

The question as to how the law applicable to a set-off is to be determined if the primary claim does not arise out of a contract has rarely been addressed. However, pursuant to the rule in Article 148(2) SPILS, there too, determination of the applicable law follows the general conflicts rules. This can be derived from 60 The SPILS determines the law governing a contract as follows: the parties are entirely free to choose the law which should apply to their contract as a whole or to set-off in particular (art 116 SPILS; with regard to set-off see DFT 81 II 175, 176; DFT 63 II 383, 385). Where they have not done so, the law of the state with which the contract has the closest connection applies (art 117(1) SPILS. With regard to set-off see DFT 81 II 175, 176; DFT 77 II 189, 191). The closest connection is presumed to exist with the state where the party providing the characteristic performance of the contract has its habitual residence (art 117(2) SPILS. With regard to set-off see DFT 81 II 175, 176; DFT 77 II 189, 191). These are the basic rules. The SPILS contains several differentiations and special rules (see arts 118–122 SPILS), which, however, do not concern commercial set-off. 61 Decision of the Swiss Federal Tribunal, 17 December 1999, DFT 126 III 25, 27; Dutoit, Bernard, Commentaire de la loi fédérale du 18 décembre 1987, 4th edn (Basel etc : Helbing and Lichtenhahn, 2005) Article 148 SPILS para 6; Bucher, Andreas and Bonomi, Andrea, Droit international privé, 2nd edn (Basel etc: Helbing and Lichtenhahn, 2004) para 1145. 62 See decision of the Swiss Federal Tribunal, 17 December 1999, DFT 126 III 25, 26. 63 Decision of the Swiss Federal Tribunal, 17 December 1999, DFT 126 III 25, 27; Dutoit (above n61), Article 148 SPILS para 6. 64 See also Keller and Girsberger in Girsberger et al (eds) (above n59) art 148 SPILS para 38.

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the fact that Article 148 SPILS is referred to as a ‘common provision of the law of obligations’ (see subtitle before Article 143 SPILS), which signifies that Article 148 does not refer to set-off of claims stemming from a contractual relationship only. In this analysis only those set-offs referring to claims of tort and unjust enrichment need be addressed. Determination of the applicable law where the primary claim is based on tort is settled in Articles 132–142 SPILS. In essence, the parties enjoy the possibility of choosing the applicable law, though this possibility is restricted to the choice of the lex fori.65 Apart from that minimal party autonomy, Swiss conflict of laws rules regarding torts reflect the general principle of lex loci delicti commissi (law of the place where the tort was committed), though with some differentiations, nuances and exceptions. If a legal relationship existed between the parties that was violated by a tort, claims based upon tort are subject to the law governing the pre-existing relationship.66 Lacking a pre-existing legal relationship, if the injuring and the injured party have their ordinary residences in the same state, tort claims are subject to the law of that state.67 If this is not the case, the law of the place where the tort was committed applies.68 If the primary claim is based on unjust enrichment, the law governing the existing or supposed legal relationship on the basis of which the enrichment has occurred applies.69 Where there was no such relationship, the parties may agree that the law of the lex fori applies; otherwise, the law of the state in which the enrichment has occurred applies.70 ii EC-Regulation on the Law Applicable to Contracts (Rome I) In the member states of the European Union, ‘situations involving a conflict of laws [with regard] to contractual obligations in civil and commercial matters’71 are governed by the EC-Regulation on the Law Applicable to Contracts (Rome I).72 The EC-Regulation applies from 17 December 200973 and replaces the Rome Convention of 1980,74 which had hitherto governed choice-of-laws questions arising out of contractual obligations. The Rome Convention remains in force in Denmark, which, in accordance with Articles 1 and 2 of the Protocol on the

65

See art 132 SPILS. ibid, art 133(3). 67 ibid, art 133(1). 68 ibid, art 133(2). 69 ibid, art 128(1). 70 ibid, art 128(2). 71 See art 1(1) of the EC-Regulation. 72 Regulation (EC) No 593/2008 of the European Parliament and of the Council of 17 June 2008 on the law applicable to contractual obligations (Rome I), Official Journal L 177 04/07/2008, pp 6–16. 73 See arts 28, 29(2) of the EC-Regulation. 74 Convention on the Law Applicable to Contractual Obligations, 19 June 1980 (80/934/EEC), Official Journal L 266, 09/10/1980 0001–0019. 66

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position of Denmark,75 did not take part in the adoption of the EC-Regulation.76 Ireland and the United Kingdom, who have issued a similar general non-binding statement,77 made use of their right to opt into the Regulation.78 According to Article 17 of the Regulation, [w]here the right to set-off is not agreed by the parties, set-off shall be governed by the law applicable to the law against which the right to set-off is asserted.

The Regulation provides for a primary claim approach, like Article 148 of the Swiss Private International Law Statute. This has been applauded by representatives of the Germanic jurisdictions.79 Attention must be drawn to the fact that the Regulation settles the choice-of-law question regarding set-off explicitly, whereas its predecessor, the Rome Convention, makes no explicit reference to set-off. Under the Rome Convention, which is still in force in Denmark, set-off is understood to be encompassed by its Article 10(1)(d). The provision states that ‘[t]he law applicable to a contract […] shall govern in particular: […] (d) the various ways of extinguishing obligations, and prescription and limitation of actions; […].’ The interpretation of this provision has been disputed. German scholarly writing had largely adopted the view that the formulation implied the rule that a set-off was governed by the law applying to the primary claim. There was vast unanimity on the fact that former Article 32(1)(4) of the German EBGBG, which mirrored Article 10(1)(d) of the Rome Convention and has now been repealed in light of the EC-Regulation,80 encompassed set-off,81 and it was 75 Protocol on the position of Denmark annexed to the Treaty on the European Union and the Treaty establishing the European Community, Official Journal C 310, 16 December 2004, 356–60. 76 See Recital 46 of the EC-Regulation. 77 See arts 1, 2 of the Protocol on the position of the United Kingdom and Ireland on policies in respect of border controls, asylum and immigration, judicial cooperation in civil matters and on police cooperation, Official Journal C 310, 16 December 2004, 353–55. 78 For the United Kingdom see the announcement of the Ministry of Justice of 22 January 2009, . 79 See Mankowski, Peter, ‘Die Rom-I-Verordnung—Änderungen im europäischen IPR der Schuldverträge’ Internationales Handelsrecht (2008) 133, 151; Mankowski, Peter, ‘Der Vorschlag für die Rom I-Verordnung’ Praxis des Internationalen Privat- und Verfahrensrechts (2006) 101, 111 (in relation to the Rome I Draft art 16). 80 See Bundesgesetzblatt 2009 I, 1574–76. 81 Kegel, Gerhard and Schurig, Klaus, Internationales Privatrecht, 9th edn (Munich: CH Beck, 2004) para 8 V (754); Magnus in Staudinger, J von (ed), Kommentar zum Bürgerlichen Gesetzbuch mit Einführungsgesetz und Nebengesetzen (Berlin: Sellier-de Gruyter, 2006) art 32 EGBGB para 62; Spellenberg in Münchener Kommentar 4th edn (Munich: CH Beck, 2006), comments before art 32 EGBGB, para 65; Ferrari in Ferrari, Franco, Kieninger, Eva-Maria, Mankowski, Peter, Otte, Karsten, Saenger, Ingo and Staudinger, Ansgar (eds), Internationales Vertragsrecht, Kommentar (Munich: CH Beck, 2007) art 32 EGBGB para 20; Kropholler, Jan, Internationales Privatrecht, 6th edn (Tübingen: Mohr Siebeck, 2006) para 52 VIII 5 (489); Siehr, Kurt, Internationales Privatrecht, Deutsches und europäisches Kollisionsrecht für Studium und Praxis (Heidelberg: CF Müller Verlag, 2001) 223; Junker, Abbo, Internationales Privatrecht (Munich: CH Beck, 1998) para 391; Coester-Waltjen, Dagmar, ‘Die Aufrechnung im internationalen Zivilprozeßrecht’, in Prütting, Hanns and Rüssmann, Helmut (eds), Verfahrensrecht am Ausgang des 20. Jahrhunderts, Festschrift für Gerhard Lüke zum 70. Geburtstag (Munich: CH Beck, 1997) 35, 37; Ferid, Murad, Internationales Privatrecht. Das neue Recht. Ein

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regularly said that former Article 32(1)(4) EGBGB should be taken as meaning the law of the primary claim should govern the set-off.82 The interpretation given to Article 10(1)(d) of the Rome Convention by German scholarly writing is by no means self-evident. Case law and literature from other member states show that Article 10(1)(d) Rome Convention could be read quite differently.83 Hence, while the primary claim approach is not contradicting Article Article 10(1)(d) Rome Convention, the provision is amenable to other interpretations. In fact, the European Court of Justice has recently84 favoured another theory, the so-called cumulative approach, which will be discussed next.

C Cumulative Approach i Introduction A third method to determine the law applicable to an international set-off is the so-called cumulative approach. This theory applies the law of both the primary claim and the cross-claim to the set-off. Only if a set-off is admissible under both jurisdictions can it take place. This theory has gained favour in France and most French-based jurisdictions which have followed the ipso iure-set-off mechanism.85 It has, however, also been influential with scholars from the Germanic jurisdictions.86 In the early twentieth century, the cumulative approach dominated the

Leitfaden für Praxis und Ausbildung, Juristische Arbeitsblätter Sonderheft 13, 3rd edn (Frankfurt am Main: Alfred Metzner Verlag, 1986) para 6–115; von Hoffmann, Bernd and Thorn, Karsten, Internationales Privatrecht einschließlich der Grundzüge des Internationalen Zivilverfahrensrechts, 9th edn (Munich: CH Beck, 2007) para 10 para 87 (466); Vorpeil, Klaus, ‘Aufrechnung bei währungsverschiedenen Forderungen’ Recht der Internationalen Wirtschaft (1993) 529; BGH, 22 November 1962, NJW 1963, 243; OLG Koblenz, IPRax 1987, 381. However, one author at least has some reservations as to the application of art 32(1)(4) to set-off; Spickhoff rejects the argument that set-off extinguishes the primary claim and should therefore be governed by the law of that claim, since both the primary and cross-claim extinguish by way of set-off, see Spickhoff in Bamberger, Heinz Georg and Roth, Herbert (eds) Beck’scher Online-Kommentar, 18th edn (as at 1 August 2010) Article 32 EGBGB para 10. 82 Frankenstein, Ernst, Internationales Privatrecht (Grenzrecht), Vols I and II (Berlin-Grunewald: Dr Walther Rothschild, 1926 and 1929) 274; Kegel and Schurig, IPR (above n81) para 8 V (754); Wolff, Martin, Das Internationale Privatrecht Deutschlands, 3rd edn (Berlin etc: Springer, 1954) 150 et seq; Kropholler, IPR (above n81) para 52 VIII 5 (489); Junker, IPR (above n81) para 391; Busse, Daniel, ‘Aufrechnung bei internationalen Prozessen vor deutschen Gerichten’ Monatsschrift fur Deutsches Recht (2001) 729, 734. 83 cf, eg, Audit, Bernard, Droit International Privé, 5th edn (Paris: Economica, 2008) para 832. 84 Case C-87/01 P CEMR v Commission [2003] ECR I-7617, No 58 et seq. 85 Paris, 29 March 1938, JDI (Clunet) 1938.749, note Tager, 1024; Batiffol and Lagarde (above n43) para 614; Mayer and Heuzé (above n41) para 749; Niboyet, droit international privé (above n43)137. 86 Bucher, Eugen, ‘Rechtsvergleichende und kollisionsrechtliche Bemerkungen zur Verrechnung (‘Kompensation’)’, in Stoffel, Walter and Volken, Paul (eds), Conflits et harmonisation – Kollision und Vereinheitlichung – Conflicts and Harmonization, Mélanges en l’honneur d’Alfred E von Overbeck à l’occasion de son 65ème anniversaire (Fribourg: éditions universitaires, 1990) 701, 716 et seq; Gebauer,

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German discussion87 and was also applied by German courts.88 In recent decades, the cumulation theory has been seriously discussed in Scandinavian literature.89 It has further been applied by Dutch courts90 and is sporadically acclaimed by English literature.91 The cumulative approach has also been referred to by the ECJ. The facts of the case, decided in 2003,92 were rather peculiar. The ECJ had to decide on a case where the European Commission claimed to be entitled to be paid back a certain sum by the CEMR (Council of European Municipalities and Regions), a private French association with which the Commission had concluded a series of contracts. The contracts between the Commission and the CEMR were about a financial cooperation with regard to two regional cooperation programmes and were governed by Belgian law. The Commission had come to the conclusion that the CEMR had violated binding budgetary provisions and was obliged to repay certain sums. As the CEMR was unwilling to pay back the sum claimed by the Commission, the Commission declared that it would set off the sum allegedly owed to it against the sums which the Community would have to pay to the CEMR by way of contractual contribution. The Commission based the set-off on Community law. The ECJ, based on Community law, rejected any alleged right of the Commission to be paid the said sum. In an obiter dictum, the ECJ also took a stand with regard to the right of set-off. It held that, since the claims with which set-off was to be effectuated were governed by different laws (Community law as regards the alleged claim of the Commission, Belgian law as regards the contributions to which the Commission had bound itself), a set-off would have to fulfil the requiremets of both laws in order to be exercisable.93 The ECJ further held that, in the case at hand, the requirements of Belgian law of set-off were not fulfilled and that, therefore, a set-off could not take place.94 However, it would be too hasty to infer from this decision that the ECJ adopted the cumulation theory as the general choice-of-law rule with regard to set-off.

Martin, ‘Die Aufrechnung nach italienischem Recht vor deutschen Gerichten—prozessuale und materiellrechtliche Probleme’ in Jahrbuch für italienisches Recht 12 (1999) (Heidelberg: CF Müller Verlag, 1999) 31, 34; Graf, Werner, Die Verrechnung im internationalen Privatrecht (Zurich: Doctoral Thesis, 1951) 72 et seq, 93 et seq. 87

See Zitelmann, IPR, II (above n42) 398 et seq; Dölle, 13 RheinZ (1924) (above n42) 32, 37 et

seq. 88

OLG Düsseldorf, 11 December 1908, 107 RheinArch (1911) 315, 317; OLG Karlsruhe, 10 March 1923, 26 BadRPrax (1924) 170, 171; see also LG Hamburg, IPRspr 1966–67, 81, 82, where the court expressly leaves open the question of the applicable law but subsequently follows the cumulation theory. 89 See the references in Frisch, Internationales Schuldrecht (above n55) 137. 90 Rechtbank Arnhem, 19 December 1991, Nederlands Internationaal Privaatrecht 1992, No 107; Kantongerecht Terborg, 25 June 1992, Nederlands Internationaal Privaatrecht 1992, No 403. 91 See Hartley, Trevor, ‘Case review of the decision of 13 July 1995 of the European Court of Justice’ 21 European Law Review (1996) 167, 168. 92 Case C-87/01 P CEMR v Commission [2003] ECR I-7617, No 58 et seq. 93 ibid. 94 ibid, No 62 et seq.

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The case involved a public body, the Commission, which intended to enforce a claim against a private association by way of self-execution. It is not unusual that Member States enable their authorities to release directly enforceable payment orders. This aspect, which is characteristic of public law, should not be overlooked when analysing the ECJ decision.95 Moreover, the ECJ mentioned neither private international law nor the Rome Convention. Although, other than under the EC-Regulation (Rome I-Regulation),96 the ECJ was not competent to interpret the Rome Convention, avoiding an examination of the situation under the Rome Convention reduces the significance of the decision for the purpose of choice-of-law analysis with regard to set-off.97

ii The Original Concept and Its Variations Unlike the lex fori theory and the law of the primary claim doctrine, the cumulative theory does not opt for a unitary approach, where one law governs all questions of an international set-off. Rather, it applies a two-sided test by taking into account both the law of the primary claim as well as that of the crossclaim.98 The traditional understanding of ‘cumulative approach’ is that the requirements of both laws must be fulfilled. This has also been referred to as the notion that ‘stronger’ law prevails,99 because a set-off will only be granted if it meets the standard of the stricter law. A less harsh view has been promulgated recently which states that every claim must be measured against its own law. According to that softer theory, the primary claim must fulfil the requirements of the law by which it is governed, whereas the cross-claim must meet the requirements of its own law. This has also been called the ‘mild’ cumulative approach.100 The differences of the traditional and the mild cumulation approach are best shown when referring to the trichotomy of requirements, operation, and effect of a set-off. (a) With regard to set-off requirements, according to the traditional cumulative approach, the requirements of both laws must be fulfilled for a set-off to take

95 Magnus, Ulrich, ‘Set-off and the Rome I Proposal’ Yearbook of Private International Law 8 (2006) 113, 116. 96 For the replacement of the Rome Convention by the EC-Regulation (Rome I) see above at 144. 97 Similarly Magnus, Yearbook of Private International Law 8 (2006) (above n95) 113, 116–117. 98 Carrez in Neate, Francis (ed) Using Set-off as Security, A Comparative Survey for Practitioners, (London: Dordrecht etc: Graham & Trotman, 1990) 204, 206. 99 Kropholler, IPR (above n81) para 20 IV. 100 cf, eg, Jud, Brigitta, ‘Die Aufrechnung im internationalen Privatrecht’ Praxis des Internationalen Privat- und Verfahrensrechts (2005) 104, 108.

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place.101 The proponents of a modern cumulation concept opt for a ‘mild’ cumulation, according to which each claim is measured against its own law solely.102 (b) Regarding the question of how set-off operates, the traditional cumulation concept has partially been held to be unworkable here. It has been said that set-off could not, for instance, occur automatically and at the same time require its assertion.103 According to another view, one operation modus would not necessarily exclude the other. It has been held that, since even the ipso iure-model required that one of the parties asserts set-off, either judicially (France) or extra-judicially (Austria, Italy),104 a clash of different operation systems could only arise where one law would require a judicial assertion and the other would operate as a self-help remedy outside court. Even this divergence, it is argued, could be overcome: according to the maxim of ‘in maiore minus inest’ (from greater to smaller), judicial assertion of set-off would absorb a merely informal set-off declaration.105 In other words, if one of the applicable laws required that set-off be informally declared to the other party, this requirement would also be met if set-off were declared in court, as nothing militates against complying with stricter rules than actually required. Pursuant to the ‘mild’ cumulation approach, the conflict with regard to different operation mechanisms could be avoided by assessing operation of set-off for each claim separately.106 (c) The question remains as to how the cumulation theory deals with the question of which law governs the effects of a set-off. Pursuant to the ‘strict’ cumulative approach, a set-off can have only that effect which is common to both laws.107 This means nothing else than that the stricter law prevails. If one law provides for retroactive effect and one for ex-nunc-effect, set-off can have only the latter effect.108 According to the ‘mild’ cumulative approach, the effect of a set-off depends on the law governing the respective claim. Such a solution can only be found in older German literature.109 Recent proposals of a mild cumulative 101 Dölle, 13 RheinZ (1924) (above n42) 32, 37 et seq, with further references; see also Zitelmann, IPR, II (above n42) 397 et seq; Niboyet, droit international privé (above n43) 137; Graf, Verrechnung (above n86) 72, 103; Brocher, Charles, Cours de droit international privé, Vol II (Paris: Ernest Thorin, and Geneva: Librairie H Georg, 1883) 120 et seq. The strict cumulation method has also been favoured by Lando, Ole, ‘The Conflict of Law Rules Respecting Set-Off and Counterclaim (Compensation) and an Analysis of the Reasoning Used’ in Grönfors, Kurt, Hellner, Jan and Persson, PG (eds) Festskrift till Knut Rodhe (Stockholm: Norstedt, 1976) 311, 325. 102 Bucher, Festschrift von Overbeck (above n86) 701, 716; Jud, IPRax (2005) (above n100) 104, 108. 103 Lando, Festskrift till Knut Rodhe (above n101) 311, 323. 104 Above at 125. 105 Graf, Verrechnung (above n86) 110 (‘the stricter rules of operation must be applied, according to the principle of “in maiore minus”’); Hartley, 21 European Law Review (1996) (above n91) 167, 168; Zitelmann, IPR, II (above n42) 398. 106 This has particularly been held by older German scholars favouring the cumulative approach, see Dölle, 13 RheinZ (1924) (above n42) 32, 50. 107 Dölle, 13 RheinZ (1924) (above n42) 32, 44; Jud, IPRax (2005) (above n100) 104, 109. 108 Dölle, 13 RheinZ (1924) (above n42) 32, 44; Graf, Verrechnung (above n86) 111. 109 Zitelmann, IPR, II (above n42) 399.

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approach remain vague in this respect and suggest as a last resort the application of the stricter rules.110 Thus, they split the cumulative approach into a mild version with regard to the requirements of set-off and into a strict version in relation to the effect of set-off. Another proposal, which to date has not been widely taken up, suggests applying both laws cumulatively for the requirements of set-off and drawing on the law of the primary claim to determine the effects of a set-off.111 The leading argument here is that the application of the law which is more hostile towards set-off goes against the fairness principle, whereas the primary claim theory is universally widespread and accepted in many jurisdictions.112 Whether this proposal has merit will be discussed later, together with the assessment of the other choice-of-law theories.113

D Other Models i Application of the Law of the Claim Which Existed First Another theory advanced in recent years seeks to apply the law of that claim which arose first, according to the principle of ‘prior in tempore potior in iure’ (first in time, superior in right).114 The reasoning underlying this proposal is that the first claim creates the economic basis of a future set-off. As soon as the first claim arises, the parties acquire a contingent right of set-off which depends on the fact that a second reciprocal claim arises. The set-off is thus said to be coined by the first claim.115 The situation could be compared to a set-off contract which is subject to the condition precedent that the second claim arises.

ii Application of the Law of the Claim Which Arose Second An older theory developed in France claimed that an international set-off should be subjected to the law of the claim which arose second.116 The rationale of this theory is that the case is most closely connected to the law of the state where the foundation for set-off was laid. As set-off by definition requires two claims, the

110

See Jud, IPRax (2005) (above n100) 104, 109. Lando in International Encyclopedia of Comparative Law (above n46) para 227. 112 ibid, para 227. 113 Below at 174−77. 114 Wolf, Martin, Die Aufrechnung im internationalen Privatrecht (Dortmund: Koffler-Druck, 1989) 179 et seq. 115 ibid, 187. 116 Despagnet, Droit international privé (above n43) para 316; Lescable, Philippe, De l’action ex stipulatu de dote en droit romain; Des questions de droit international privé en matière d’obligations au point de vue de la solution qu’elles doivent recevoir de la juridiction française en droit français (Paris: Impr. Moquet, 1881), 312 et seq; Weiss, André, Traité théorique et pratique de droit international privé, tome IV, 2nd edn (Paris: Recueil Sirey, 1912) 395. 111

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decisive element is the arising of the second claim. Therefore, set-off should be subjected to the law governing the second claim.117

iii Application of the Lex Loci Solutionis Courts have occasionally applied to a set-off the law of the place where the primary claim was to be fulfilled.118 The lex loci solutionis approach bears some resemblance to the primary claim approach in that it exclusively focuses on the primary claim. The application of the law at the place of performance is a common rule of conflict in cases where indications that another law would be more appropriate in the case at hand are missing.119 The theory is based on the idea that performance is the (sole) purpose of a contract. It is the economy of the place where performance should occur which is affected, and the place of performance is often the place where legal proceedings are instituted.120 The law of the place of performance is therefore deemed to be closely connected to the dispute.

iv Application of the More Set-off Friendly Law Another theory opts for an alternative solution.121 The law of set-off should be either the law of the primary claim or the law of the cross-claim. The decision as to which of the two laws applies should be made according to a ‘most favourable’ test. If, for example, the law of the primary claim did not allow for a set-off but that of the cross-claim did, the latter should apply.122 If set-off were admissible under both laws, the law providing for an earlier extinction of the claims should prevail.123 This so-called ‘alternative theory’ aims at applying the law that is more favourable to the party who is worthy of protection.124

117 Lescable, Droit international privé (above n116), 312: ‘La compensation se produit au moment où naît la seconde obligation; c’est donc la loi du lieu où se forme cette dernière qui doit en déterminer les conditions et les effets.’ 118 See Rechtbank Rotterdam, 25 June 1968, S&S (1969) No 12. 119 Loussouarn, Yvon, Bourel, Pierre and de Vareilles-Sommières, Pascal, Droit international privé, 9th edn (Paris : Dalloz, 2007) 506; very critical of the lex loci solutionis rule in general Zitelmann, IPR, II (above n42) 369 et seq. 120 Loussouarn, Bourel and de Vareilles-Sommières (above n119) 507. 121 Kannengießer, Matthias N, Die Aufrechnung im internationalen Privat- und Verfahrensrecht (Tübingen: Mohr Siebeck, 1998) 117 et seq. 122 ibid, 117. 123 ibid, 118. 124 Kropholler, IPR (above n81) para 20 II; Schurig, Klaus, Kollisionsnorm und Sachrecht, Zu Struktur, Standort und Methode des internationalen Privatrechts (Berlin: Duncker & Humblot, 1981) 205 et seq.

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A variation of the alternative theory would be to allow the party who wishes to set off to choose between the application of the primary claim or the crossclaim.125 It could make this choice either before or after the set-off situation arises. The purpose of both alternative theories is the same: to protect the party who wishes to set off. So far, the second-mentioned solution has apparently been neither suggested nor applied.

III Criteria for a Suitable Rule to Determine the Law Applicable to a Set-off in International Arbitration The above survey outlined the most prominent conflicts rules for set-off developed in the classic area of choice-of-law. It must be examined whether these doctrines would lend themselves as models for a uniform rule to determine the law of set-off in international commercial arbitration cases. The suitability of a rule to determine the applicable substantive law can be measured against certain criteria. These criteria have been developed as classic choice-of-law doctrines. They can be adapted for the suitability test of choice-oflaw solutions in international arbitration by adjusting them to the setting of international arbitration. One such adaptation will consist of replacing the terms of ‘choice-of-law issues’ and ‘conflict of laws rules’ by a term which is broad enough as to encompass all possible methods of determining the applicable law in international arbitration, including, in particular, the direct designation of the law.126 Terms which will include traditional choice-of-law rules and voie directe methods are ‘law designation rule’, ‘law designation method’, ‘law designation approach’, respectively. Another terminological adjustment to the setting of international arbitration will be the replacement of the term ‘lex fori approach’, as used above, into ‘lex loci arbitri approach’. The common core of suitability criteria127 involves aspects such as whether the law designation rule provides for ample party autonomy (section A), whether it 125 For such a possibility in general see Scoles, Eugene F, Hay, Peter, Borchers, Patrick J and Symeonides, Symeon C, Conflict of Laws, 4th edn (St Paul (Minn): Thomson/West, 2004) para 2.13 (p 57). 126 As to the determination of the substantive law in international arbitration see above section I. 127 See, in particular, the list developed by Leflar, who subscribed to the view that choice-of-law rules should consist of a set of flexible ‘choice-influencing considerations’ that should guide the court in its choice of the applicable law. He suggested a five-point list which read as follows: (1) predictability of results, (2) maintenance of interstate and international order, (3) simplification of the judicial task, (4) advancement of the forum’s governmental interest, and (5) the application of the better rule of law. A similar list has been included in the American Law Institute’s Restatement Second, Section 6; the first three points are dedicated to governmental interest, a genuinely American conflicts law theory that does not lend itself for generalisation; but points (4)–(7) reflect Leflar’s list in that they require consideration of (4) the protection of party expectations, (5) the basic policies underlying the particular field of law, (6) the objectives of certainty, predictability, and uniformity of

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provides for predictable results (section B), whether it eliminates the possibility of manipulations (section C), whether it constitutes a practical rule (section D), whether it is comprehensive (section E), and, finally, whether it is an ‘appropriate’ rule (section F). The term ‘appropriateness’ will need closer examination.

A Respecting Party Autonomy In international contract law, it is generally undisputed that the parties should enjoy the greatest freedom possible in choosing the applicable law themselves.128 This maxim is emphasised even more in international arbitration.129 A rule to determine the applicable law that intends to be commonly accepted must, therefore, respect party autonomy.

B Ensuring Predictability The law governing the dispute must be predictable. Predictability provides for legal certainty and ‘ensures peace of mind and economy’.130 This is important in international contract law and has been particularly stressed with regard to international commercial arbitration.131 The parties should be prepared for the applicable law and, if necessary, be able to align themselves with it.132

C Eliminating the Possibility of Manipulative Tactics A convincing law designation rule should anticipate the situation that one of the parties uses tactics to manipulate the determination of the applicable law and thereby succeeds in having that law applied which is more favourable to it.

result, and (7) the ease of determining and applying the law identified as applicable. See also Kropholler, IPR (above n81) para 4 II, who has established comparable criteria. 128 Nygh, Autonomy (above n36) 13; Goode, Roy, Commercial Law, 3rd edn (London: Penguin Books, 2004) 1090. 129 Fouchard, Gaillard and Goldman (above n21) para 1421; Lew, Mistelis and Kröll (above n36) para 17–8 et seq; Redfern and Hunter (above n30) para 2–34; Vischer, Frank, Huber, Lucius and Oser, David, Internationales Vertragsrecht, 2nd edn (Berne: Staempfli Publishers, 2000) para 103. 130 Lando, Festskrift till Knut Rodhe (above n101) 311, 312. 131 cf Born, International Commercial Arbitration (above n3), 2138 et seq. 132 Kropholler, IPR (above n81) para 4 IV, para 21 II; Bertrams, RIVF, ‘Set-off in Private International Law’, in Boele-Woelki, Katharina et al (eds), Comparability and Evaluation, Essays on Comparative Law, Private International Law and International Commercial Arbitration in Honour of Dimitra Kokkini-Iatridou (Dordrecht etc: Martinus Nijhoff Publishers, 1994) 153, 154; see also Gaillard, Emmanuel, ‘Transnational Law: A Legal System or A Method of Decision Making?’ 17 Arbitration International (2001) 59, 65.

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D Enhancing Practicability Furthermore, a law designation rule should be reasonable and feasible. It should not be overly complicated, as this can lead to errors in its application by the judicial authorities. The easier a rule is, the more likelihood there is of correct application. This criterion must, however, not sideline the criterion that a choice-of-law rule should be appropriate (see criterion (6)). As important as convenience and applicability are, they cannot prevent a fair rule, even if that rule is complex.

E Providing Comprehensiveness The perfect law designation rule is comprehensive. It should give a complete answer to the question of which law shall apply without leaving open questions that are clearly interrelated (and should therefore not be divided).

F Avouching Appropriateness i ‘Appropriateness’ in Classic International Contract Law—European Traditionalism and American Theories A law designation rule must be appropriate. In this context, the term ‘appropriateness’ can be difficult to grasp. In European classic conflict of laws, ‘appropriateness’ of a choice-of-law solution means ‘choice-of-law fairness’, as opposed to ‘substantive fairness’.133 Choice-of-law is based on the premise that the function of conflict of laws rules is to refer each multistate case to the state that has the most appropriate relationship for supplying the applicable law, rather than to directly search for the proper law or, much less, the proper result.134 According to an established understanding, choice-of-law fairness is achieved by applying the law of that state in which the case has its ‘centre of gravity’.135 Despite differences on how the centre of gravity should be identified, the largely prevailing view in Europe is that it should be done in geographical or spatial terms rather than in terms of the content of the applicable law or the quality of

133 See Schurig, Kollisionsnorm und Sachrecht (above n124) 15 et seq, 166 et seq; Lorenz, Egon, Zur Struktur des internationalen Privatrechts, Ein Beitrag zur Reformdiskussion (Berlin: Duncker & Humblot, 1977) 62; Kegel, Gerhard, ‘Paternal Home and Dream Home: Traditional Conflict of Laws and the American Reformers’ 27 American Journal of Competition Law (1979) 615, 616 et seq; Scoles, Hay, Borchers and Symeonides (above n125) para 2.12 (p 48). 134 Scoles, Hay, Borchers and Symeonides (above n125) para 2.12 (p 48). 135 The theory was developed by Savigny, Friedrich Carl von, System des heutigen römischen Rechts, Vol VIII (Berlin 1849 (reprinted in Aalen: Scientia Verlag, 1981)) 28, 108, who spoke of the ‘seat’ of the legal question at issue. Modern legislations often use the term ‘closest connection’.

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the solution it produces.136 Scoles, Hay, Borchers and Symeonides refer to ‘“the spatially best solution” (“conflicts justice”)’ as opposed to ‘“the materially best solution” (“material justice”)’.137 Foreign commentators have described the use of conflict of laws rules with the goal to achieve choice-of-law fairness as a ‘mechanical rule’.138 Indeed, choice-of-law fairness is not concerned with producing the most reasonable substantive result, but to apply that law which has the closest connection to the case. In contrast, substantive fairness is based on the view that: [M]ultistate cases are not qualitatively different from fully domestic cases and that a judge’s duty to resolve disputes justly and fairly does not disappear the moment the judge encounters a case with foreign elements. Resolving such disputes in a manner that is substantively fair and equitable to the litigants should be an objective of conflicts law as much as it is of internal law. Conflicts law should not be content with a different or lesser quality of justice but should aspire to attain ‘material or substantive justice’.139

Proponents of the substantive fairness approach thus seek for the qualitatively best substantive law, which is most appropriate to solve the dispute at hand. They can be regarded as precursors of modern law determination approaches in international arbitration. In particular the rule that the arbitral tribunal should apply the law that it considers appropriate without the detour via conflicts rules (so-called voie directe doctrine)140 is infiltrated by substantive fairness considerations. The substantive fairness approach, however, as it has just been described, differs from the voie directe by remaining in the confines of conflict of laws doctrines. The search for the materially fairest solution does not take place by way of a direct application of substantive law rules. Quality criteria of the applicable law are meant to be part of several choice-influencing considerations.141

136 Schurig, Kollisionsnorm und Sachrecht (above n124) 166 et seq. The focus on spatial or geographical factors is usually not overtly communicated. European conflicts law authors seem to imply it and typically describe the process of determining the centre of gravity as based on abstract and general interests (Schwimann, Michael, Internationales Privatrecht, einschließlich Europarecht, 3rd edn, (Vienna: Manz, 2001) 3), as asking what the typical interests of the parties in the application of a particular law are (Kropholler, IPR (above n81) para 4 II 1 (p 25)), or asking which law makes most sense to be applied in the case at hand (Graf, Verrechnung (above n86) 95). 137 Scoles, Hay, Borchers and Symeonides (above n125) para 2.12 (p 48), emphasis in the original. 138 Leflar, Robert A, ‘Conflicts Law: More on Choice-Influencing Considerations’ 54 California Law Review (1966) 1584, 1585; see also Vitta, Edoardo, ‘The Impact in Europe of the American ‘Conflicts Revolution’’, 30 American Journal of Comparative Law (1982) 1 (‘mechanical choice of law rules’). 139 Scoles, Hay, Borchers and Symeonides (above n125) para 2.12 (p 49). 140 Above at 134−36. 141 Leflar, 41 NYU L Rev (1966) (above n138) 267 et seq; Juenger, Friedrich K, Zum Wandel des Internationalen Privatrechts (Karlsruhe: CF Müller, 1974) 21 et seq; Juenger, Friedrich K, ‘Leflar’s Contributions to American Conflicts Law’ 31 South Carolina Law Review (1980) 413 et seq; Juenger, Friedrich K, ‘American and European Conflicts Law’ 30 American Journal of Comparative Law (1982) 117 et seq.

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The substantive fairness approach has been quite popular in the United States. Since the 1930s, various theories had been advanced to integrate substantive fairness considerations into choice-of-law issues.142 The most prominent of the substantive fairness doctrines is the ‘better law’ approach developed by Robert A Leflar in the 1960s.143 Leflar subscribed to the view that choice-of-law rules should consist of a set of flexible ‘choice-influencing considerations’ that should guide the court in its choice of the applicable law. He suggested a five-point list which read as follows: (1) predictability of results, (2) maintenance of interstate and international order, (3) simplification of the judicial task, (4) advancement of the forum’s governmental interest, and (5) the application of the better rule of law. The last-mentioned point, the ‘better rule of law’, intends to apply that law, of the laws connected to the case, which gives the most satisfactory practical result in the settlement of the case.144 The better law approach was partially criticised in literature145 but was supported by judges146 and has, in the end, left its mark on American conflicts law. Some states have adopted the approach,147 and it has also influenced the Restatement Second of 1971.148 In Europe, the principle that choice-of-law fairness and substantive fairness should not be mingled on the level of conflicts rules has only been departed from infrequently,149 and barely so in international contract law.150 Doctrines such as the ‘better law approach’ have been criticised on the ground that there is a natural order of the questions of the law applicable and of the content of such law: the first question logically precedes the second.151 Proposals to loosen the strict separation of choice-of-law fairness and substantive fairness in Europe152 could

142 cf, eg, Lando, Ole, ‘New American Choice-of-Law Principles and the European Conflict of Laws of Contracts’ 30 American Journal of Comparative Law (1982) 19, 22 et seq; Hanotiau, Bernard, ‘The American Conflicts Revolution and European Tort Choice-of-Law Thinking’ 30 American Journal of Comparative Law (1982) 73, 78 et seq. 143 Leflar, 41 NYU L Rev (1966) (above n138) 267 et seq; Leflar, 54 Calif L Rev (1966) 1584; see also Leflar, Robert A, ‘The Nature of Conflicts Law’ 81 Columbia Law Review (1981) 1080. 144 Leflar, 41 NYU L Rev (1966) (above n138) 267 et seq. 145 Cavers, David F, ‘The Value of Principled Preferences’ 49 Texas Law Review (1971) 211, 212 et seq; Ehrenzweig, Albert A, Private International Law: A Comparative Treatise on American International Conflicts law, Including the Law of Admiralty (Leiden: Sijthoff, 1967) 97–98, 100–103 (1967); Mehren, Arthur von, ‘Recent Trends in Choice-of-Law Methodology’ 60 Cornell Law Review (1975) 927, 952 et seq; Symeonides, Symeon C, ‘The American Choice-of-Law Revolution in the Courts: Today and Tomorrow’ 298 Rec Cours (2003) 1, 51 et seq, 109 et seq. 146 Todd, J, ‘A Judge’s View’ 31 South Carolina Law Review (1980) 435. For support from academic authors, see Juenger, 31 SC L Rev (1980) (above n141) 413. 147 Minnesota and Wisconsin follow the better law approach with regard to tort and contract conflicts; New Hampshire, Rhode Island, and Arkansas follow it at least with regard to tort conflicts. 148 See, eg, Lando, 30 Am J Comp L (1982) (above n142) 19, 28 et seq. 149 See Schwimann, Internationales Privatrecht (above n136) 4. 150 Symeonides, 298 Rec Cours (2003) (above n145) 1, 51 et seq, 109 et seq. 151 Kahn-Freund, Otto, ‘General Problems of Private International Law’ 143 Rec Cours (1974) 139, 259. 152 See, eg, Juenger, Wandel (above n141) 17 et seq, particularly at 21, where he poses the question whether one should not, ‘instead of requiring the substantively wrong, elevate substantive fairness to

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not gain ground,153 at least not so as to directly permit the court to consider substantive fairness aspects when deciding on the question of the applicable law.154

ii ‘Appropriateness’ of Choice-of-Law Rules in International Arbitration It has been shown that the determination of the applicable law in international arbitration may differ from classic conflicts rules in several respects. These differences are also reflected in the question as to what ‘appropriateness’ of a law determination rule means. Whereas, in classic choice of law, ‘appropriateness’ of a conflicts rule is linked to the question of the geographically ‘closest connection’ of the case to a legal system, ‘appropriateness’ in international arbitration is an open term. It is used both in arbitration laws providing for law determination via conflicts rules as well as in arbitration laws providing for direct law determination without the detour via conflicts rules. Arbitral tribunals are usually required to apply either the conflict of laws rules that they deem appropriate (or ‘that they deem applicable’—the formulation may vary, but the meaning is the same) or the (rules of) law that they consider appropriate. Thus, in every single case the arbitral tribunal has to decide anew and with a view to the circumstances of the particular situation the application of which law would be appropriate. The tribunal will thus take into account factors such as how developed a particular law is, and how sophisticated and suitable it is for solving the present dispute. ‘Appropriateness’ of a law determination rule is not defined in a particular manner in international arbitration. It is, however, clear that ‘appropriateness’ in international arbitration is not bound to the rigid Savigny-founded understanding which still prevails in classic European conflicts law.

the basic principle […] transparency instead of obfuscation/concealment is required; the motives for choosing a particular law should be revealed and explained’; Gutzwiller, Peter Max, ‘Von Ziel und Methode des IPR’ 25 Schweizerisches Jahrbuch für Internationales Recht (1968) 161 et seq, (181) et seq; cf also Zweigert, Konrad, ‘Zur Armut des internationalen Privatrechts an sozialen Werten’ RabelsZ 37 (1973) 435 et seq, who is slightly more cautious. Hanotiau’s conclusion that the new American theories had indeed an influence on European law of conflicts, again, refers to tort law exclusively, see Hanotiau, Bernard, ‘The American Conflicts Revolution and European Tort Choice-of-Law Thinking’ 30 American Journal of Comparative Law (1982) 73, 88 et seq. 153 Efforts to explain the marginal responsiveness of European doctrine and case law to the new American theories have been made, eg, by Lando, 30 Am J Comp L (1982) (above n142) 19, 25 et seq. 154 But see Vitta, 30 Am J Comp L (1982) (above n138) 1, 11, who emphasises that the American ‘revolutionary’ wave has had an impact on the level of drafting choice-of-law rules in Europe.

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iii ‘Appropriateness’ with Regard to Choice-of-Law Rules for Set-off in International Arbitration a

Choice-of-law Fairness Considerations in the Traditional Conflicts Rules

The criteria which will give some guidance as to whether a solution is appropriate in relation to set-off issues must be established first. Every choice-of-law model presented above155 has embodied a specific policy. The lex fori approach—which is referred to as ‘lex loci arbitri approach’ in the setting of international arbitration156—presumes that the law of the proper state is necessarily the proper law. The primary claim approach is based on the consideration that the creditor must be protected in its reliance that set-off can only take place in the circumstances indicated by its own law. The cumulation theory emphasises the technical aspect that a set-off extinguishes two claims and must, thus, fulfil the requirements of the law of the primary claim as well as that of the cross-claim. The suggestion to apply the lex loci solutionis is based on the understanding that it is typically considered appropriate to apply the law existing at the place where performance is due, etc. All these considerations underlying the various concepts of determining the applicable law for a set-off relate to choice-of-law fairness. They are guided by the idea that the ‘spatially best solution’ must be found. Substantive fairness considerations, that is, whether the application of a particular law will lead to a fair result in the merits, are not discussed. b Possible Fairness Considerations When Determining the Law in International Arbitration Introduction As shown, there is a greater variety of methods to determine the applicable law in international arbitration than in state court proceedings.157 In particular, ‘appropriateness’ in international arbitration does not refer to mere choice-of-law fairness but can encompass substantive criteria. It must be examined next what possible substantive fairness criteria might be with regard to set-off. Functions of Set-off The functions regularly attributed to set-off are equity, practicability and economic efficiency.158 Its use as a security device is often mentioned hand in hand with the practicability argument. However, providing security seems to be the consequence rather than the original function of set-off. Nowhere has set-off been established as a new device with the declared intent to create a new security instrument. Security can, after all, also be provided by other means, that is, by 155 156 157 158

Above at 138−52. Below at 161−67. Above at 136−38. Above at 9−12.

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rights of retention, guarantees, pledges, etc.159 The historical survey has shown160 that allowing set-off has regularly been explained by the rationale that it would be unfair to allow the creditor to obtain the entire primary claim if it is itself indebted to the debtor. This is a clear equity consideration, whereas it seems that security is, so to speak, of secondary importance. Furthermore, allowing for a set-off is often justified by the argument that it is convenient in order to avoid to-and-fro payments (or other performances) and that it would be overly formalistic if the debtor were required to perform in full first and then draw on the creditor for the cross-claim.161 This is the economy or efficiency aspect which should be safeguarded by granting the right to set off. The efficiency purpose comes second, too—after the equity rationale. Abbreviating the exchange of performances may be convenient. But it is, after all, still the exception to the normal case. The parties do usually not enter into obligations to have them remain undone. The character of a contract (which is by far the most prominent way to create obligations, at least in international arbitration) is geared to an (actual) exchange of performances. It would be incongruous, even contradictory to the character of obligations to hold that the shortcut which can be effectuated by way of set-off is the main purpose of the set-off mechanism. Thus, the primary rationale of set-off appears to be equity. If the parties are mutually obliged to each other, it must be possible to defend oneself against a claim by referring to one’s cross-claim. The creditor should not be able to recover all that is owed to it if, at the same time, the debtor holds a claim against it. Implications The implications that can be drawn from this hierarchy of purposes are the following. From the multitude of functions typically attributed to set-off, it is the equity idea which must be leveraged. The law applying to set-off must, as far as possible, do justice to the equity idea on which set-off is based. This has sometimes been understood as dictating that the law which should apply is that which is most set-off friendly.162 The set-off should accordingly be governed by that law which has the mildest requirements, the simplest operation mechanism, and the broadest possible effect.163 The postulate that the law which produces the most set-off friendly results is the one which should apply cannot be upheld without exception. After all, set-off is a privilege 164 granted to the debtor of the primary claim. The debtor is given the privilege not to perform in real. Set-off is thus an exception from the ordinary 159 See also Heinrich, Gregor, ‘Rechtsvergleichende Aspekte der Verrechnung als Kreditsicherheit’ 6 Schweizerische Zeitschrift für Wirtschaftsrecht (1990) 266, 270; Gebauer, 12 Jahrbuch für italienisches Recht (1999) (above n86) 31, 35. 160 Above at 23 et seq. 161 Above at 9−10. 162 See, eg, Kannengießer, Aufrechnung (above n121) 123 et seq. 163 ibid. 164 See, eg, Fawcett, James and Carruthers, Janeen, M, Cheshire, North & Fawcett, Private International Law, 14th edn (Oxford: Oxford University Press, 2008) 95.

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rule that obligations are to be fulfilled. This exception is granted out of equity considerations. Equity, however, is understood as a corrigendum of the law where the strict application of the latter would lead to unbearable results. It is not meant to lead to the mildest possible result for one of the parties. Equity should only prevent too harsh a situation.165 Applied to our question, the fact that set-off has been developed primarily out of equity considerations does not call for the mildest possible law of set-off. As Appleton has famously stated, the ‘history of set-off is one of the most interesting episodes in the struggle between the law and equity, those two rivalling children of justice’.166 Set-off is a postulate born out of equity considerations, but it should not gain the upperhand. The search for the most appropriate law applicable to an international set-off should thus not be dominated by set-off friendliness at every price. Rather, set-off friendliness must be brought in a balance with the other criteria mentioned above.

IV Discussion of Classic Choice-of-Law Rules With Regard to Set-off The best possible way to determine the law applicable to set-off will now be discussed. It must be kept in mind that the search is for a uniform rule of universal validity which facilitates the exercise of a set-off defence in international commercial arbitration.167 First, the approaches developed in classic conflict of laws shall be discussed, that is, the lex fori approach (section A), the theory to apply the law governing the primary claim (section B), the cumulative approach (section C) as well as the other approaches advanced by state court case law (sections D–G). Conclusions will be drawn in section H. As these conflicts rules represent rules of classic conflicts of law, their terminology cannot be adopted in full. This refers in particular to the ‘lex fori approach’, which in relation to law determination issues in international arbitration will be referred to as the ‘lex loci arbitri approach’. The term ‘lex fori’ will, however, be maintained where the arguments dealt with here have been developed in classic choice-of-laws. It should be re-emphasised that all of the following theories are suggestions for a determination of the law applicable to set-off absent a parties’ choice of law. 165 Hanbury, Harold Greville and Martin, Jill E, Modern Equity, 18th edn (London: Sweet & Maxwell, 2009) para 1–001; McGhee, John, Snell’s Equity, 31st edn (London: Sweet & Maxwell, 2008) para 1–14 . 166 Appleton, Charles Louis, Histoire de la Compensation en Droit Romain (Paris: G Masson, 1895) 6 (‘L’histoire de la compensation est l’un des épisodes les plus intéressants de la lutte entre le droit et l’équité, ces deux enfants rivaux de la justice’). 167 Above at 5.

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The parties are free, within the limits of the applicable conflicts rules, to autonomously agree on a law that would govern a set-off between them. However, and this is the crucial point, a general choice-of-law clause in a contract does not encompass set-off of itself; it will only do so if the applicable conflicts theory refers in one or the other way to the lex contractus. In such a case, a choice-of-law agreement generally referring to the conctract will indirectly be relevant for the law applicable to set-off. However, the lex contractus will then only bear significance because an objective law determination rule declares the subjective lex contractus to be relevant. The objective law determination rule is therefore significantly more important than in contractual matters proper, and it is all the more relevant that an objective law determination rule for set-off be reasonable, feasible, and practical.

A The Lex Fori/Lex Loci Arbitri Approach Under Scrutiny i Practicability a

In State Court Proceedings

The lex fori approach, as it was depicted above,168 relates to state court proceedings. It has found favour because of its striking simplicity. It is a choice-of-law rule which is easy to understand. In relation to state court jurisdiction, it has often been emphasised that the application of the forum’s own law avoids the time-consuming examination of foreign law. The lex fori doctrine would also avoid acquiring knowledge of the contents of foreign law—a task that can be difficult, in particular where the foreign law is uncertain and its case law obscure or contradictory.169 Moreover, the lex fori approach is said to reduce mistakes that may occur when applying the relevant set-off law.170 It is hardly surprising that the lex fori has partially also been considered or applied in jurisdictions which have attached a substantive notion to set-off, such as France171 or the Netherlands.172 Another advantage of the lex fori approach is that it is comprehensive. Differentiations as to whether a provision belongs to procedural law or to

168

Above at 139−46. Lando, Festskrift till Knut Rodhe (above n101) 311, 318; Fountoulakis, Christiana, ‘The Parties’ Choice of ‘Neutral Law’ in International Commercial Sales Contracts’ VII European Journal of Law Reform (2005) 303, 312. 170 See, eg, Flessner, Axel, ‘Fakultatives Kollisionsrecht’ 34 Rabels Zeitschrift fur Auslandisches und Internationales Privatrecht (1970) 547, 554, 580; Lorenz, Struktur (above n133) 102; Vassilakakis, Evangelos, Orientations méthodologiques dans les codifications récentes du droit international privé en Europe (Paris: Librairie générale de droit et de jurisprudence, 1987) para 29 et seq. 171 Valéry, Jules, Manuel de Droit International Privé (Paris: Fontemoing, 1914) para 700; Sacerdoti, JDI (Clunet) 1896 (above n42), 57 et seq; Rolin, Albéric, Prncipes du droit international privé, Vols I and II (Paris: Librairie Maresqainé, 1897) 579 et seq (with reservations). 172 Rechtbank Alkmaar, 7 November 1985, Nederlands Internationaal Privaatrecht 1986, No 213. 169

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substantive law are not necessary. As will be shown, most other conflicts rules discussed here are confronted with the question of whether requirements of the applicable law with a procedural flavour must be observed or not.173 This question is particularly intricate with regard to the law of set-off, where some legal systems deal with a requirement in their substantive law and others in their procedural law. This holds true, for instance, for the requirement of liquidity, which in France and French-based jurisdictions belongs to the substantive law and in Germany to the procedural law. Under the lex fori theory, the problem of whether, for example, a German court must take into account the liquidity requirements in the French Code Civil 174 does not arise, since the law of the forum is the only relevant legal source. b

In International Arbitration

In international arbitration, the lex fori approach is referred to as the lex loci arbitri doctrine.175 Some of the advantages pointed out in reference to the lex fori theory in state court jurisdiction also hold true for the lex loci arbitri approach, but not all of them. Simplicity of the rule and avoidance of the question of whether a set-off requirement is substantive or procedural are factors that can also be ascribed to the lex loci arbitri approach. Adhering to the lex loci arbitri doctrine however does not mean that the laborious investigation of foreign law is eliminated. This may be true where the arbitration is conducted by a sole arbitrator coming from the jurisdiction which applies at the place of arbitration. However, an international arbitral tribunal consisting of more than one arbitrator is mostly composed of arbitrators of different nationalities and legal backgrounds. It would be a rare exception if, in an international arbitration, all of the arbitrators came from the same jurisdiction, and it is even less likely that they all shared the legal background of the law applicable at the place of arbitration. Therefore, if the law applicable at the place of arbitration is applied, the arbitral panel does not apply a law that could be called the ‘tribunal’s own law’. Rather, by applying the law of the place of arbitration, the arbitrators will apply a law which is not their own law. To the arbitral tribunal, at least to a part of it, the lex loci arbitri will be ‘foreign’ law.176 Thus, the advantage of avoiding errors of law or, at least, its costly and time-consuming adduction, will not be safeguarded by an application of the lex loci arbitri.

173

See below at 171−72. Article 1291(1) CC, see above at 47−50. 175 See above at 129−30; see also Goode, Roy, ‘The Role of the Lex Loci Arbitri in International Commercial Arbitration’ in Rose, Francis D (ed), Lex Mercatoria: Essays on International Commercial Law in Honour of Francis Reynolds (London: LLP, 2000) 245 et seq. 176 cf, eg, art 9(5) ICC Rules of Arbitration or R-14 AAA Commercial Arbitration Rules, which provide for restrictions concerning the composition of tribunal with regard to the arbitrators’ nationality. See also Kaufmann-Kohler, 36 Vand J Transnat’l L (2003) (above n36) 1313, 1331. 174

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ii Predictability The question of whether the lex fori approach leads to predictable results is more difficult to answer. On the basis of the venues available, a party can assess how many and which laws may apply. Nonetheless, the applicable law can only be predicted if the forum in which the case will be adjudicated can be determined with certainty. This will be possible if the parties have made a respective choice of venue. In international arbitration, the parties will have made a choice in relation to the place of arbitration. The applicable law would thus be the law at the place of the arbitration. However, the question of whether a valid arbitration clause exists, or whether the arbitration clause is broad enough to cover the issues in dispute, is frequently asked. There is a plethora of cases where one of the parties challenges the arbitration agreement and seizes a state court.177 That state court may be located in various countries: at the seat of the arbitration, at the claimant’s or the defendant’s place of business, at the place of performance, etc. The unpredictability of the forum leads here to unpredictability about the applicable law. Thus, the lex fori, lex loci arbitri approach, respectively, cannot be recommended under predictability criteria.178

iii Avoidance of Using Tactics It is often stated that, in state court proceedings, the lex fori approach might encourage manipulations as to the applicable law. Each party would try to bring the dispute before that judicial authority which is most favourable to its own interests, a tactic that is commonly known as ‘forum shopping’.179 Applied to set-off, the party who wants to avoid a set-off would look for the forum whose rules are the least favourable to set-off, whereas the party wishing to set off would seek a declaratory judgment that the primary claim has been extinguished before the venue whose rules are particularly set-off friendly.180 These concerns are by no means unjustified. In contract matters, however, the risk of forum shopping with a view to having a certain law applied seems considerably exaggerated. Parties to an international contract will usually have

177 See, eg, the comparative law overview given by Fouchard, Gaillard and Goldman (above n21) para 672 et seq and the examples provided there cf further Lew, Mistelis and Kröll (above n36) para 14–33 et seq. 178 Similarly Lando, Festskrift till Knut Rodhe (above n101) 311, 319. 179 Lorenz, Struktur (above n133) 86, 102; Lando, 30 Am J Comp L (1982) (above n142) 19, 32 et seq. Ehrenzweig, the vehement defendant of a general lex fori concept in private international law, was aware of the problem of forum shopping and repeatedly suggested the creation of new international jurisdiction rules: the court should only be competent to hear the case if it were able to convincingly apply its own law (see Ehrenzweig, Albert A, ‘Specific Principles of Private International Law’ Rec Cours 164 (1968 II) (Leyden: AW Sijthoff, 1969) 164 (1968 II), 167, 216 et seq; Ehrenzweig, Albert A, ‘A Proper law in a Proper Forum: A ‘Restatement’ of the ‘Lex Fori Approach’’ 18 Oklahoma Law Review (1965) 340, 352)—a proposal that could not gain ground. 180 See Kannengießer, Aufrechnung (above n121) 99; Jud, IPRax 2005 (above n100) 104, 107; Metzger, JZ (2004) (above n39) 87, 91; see also Sacerdoti, JDI (Clunet) 1896 (above n42), 57, 58.

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agreed on the law governing their contract. For the remaining matters, which are not encompassed by such a choice, it will not be worth the effort to go forum shopping in order to have a particularly favourable law applied to those questions in dispute. There will be other legal, economic, and strategic matters to worry about. The choice of forum will generally be influenced by procedural considerations such as cost, the quality of the judicial authority, the availability of evidence, and the range of discovery devices. Preoccupation with the prevention of forum shopping as the single most important aim of conflicts law appears excessive.181 The risk of forum shopping is, in fact, usually emphasised with regard to matters other than contract law, such as torts.182 Thus, it is not excluded that the selection of the forum is guided by considerations such as whether the lex fori is more favourable to set-off or, on the contrary, aggravates the raise of a set-off defence. However, the position of the lex fori towards set-off is but one single criterion, and there may be other criteria that are equally or even more decisive for the question of selection of forum. Moreover, in international arbitration, the risk of forum shopping is considerably attenuated. In most cases, the parties will have chosen the seat of the arbitration in their arbitration agreement. This excludes the possibility of manipulation as to the applicable law,183 at least at the stage of initiation of proceedings. At the stage of drafting the contract, again, it seems rather unlikely that the parties select the seat of arbitration according to whether the lex loci arbitri is particularly prone to set-off or not.

iv Appropriateness? The criteria that have just been dealt with are measurable without necessarily implying a positive or negative evaluation. Practicability, comprehensiveness, and predictability are quasi objective findings. The fact that a conflicts rule complies with some or all of them is certainly a strong indication of the quality of that rule. However, none of those criteria could make up for the fact that a conflicts rule is inappropriate, that is, that it leads to results that are, in terms of choice-of-law fairness, unreasonable or unjust. With regard to set-off, the lex loci arbitri approach has been found to be comprehensive, rather predictable, and not overly impracticable. However, for the purpose of this study, which is to find a uniform rule suitable to determine the law applicable to a set-off in international arbitration, the gist of the matter is to make a critical assessment of the lex loci arbitri theory as to its appropriateness. The lex fori approach, as developed in classic choice-of-law before state courts, is based on the assumption that set-off is a procedural instrument. Nowadays, 181

Juenger, 30 Am J Comp L (1982) (above n141) 117, 129. cf, eg, Lowenfeld, Andreas F, ‘Renvoi Among the Law Professors: An American’s View of the European View of American Conflict of Laws’ 30 American Journal of Comparative Law (1982) 99, 103 et seq; Lando, 30 Am J Comp L (1982) (above n142) 19, 32 et seq. 183 See also Stolzke, Aufrechnung (above n43) 38. 182

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this assumption is only true with respect to English statutory set-off and, in its requirement that set-off is asserted judicially, French legal set-off. All other forms of set-off have more or less been found to be substantive approaches. The lex fori is, therefore, coined by a very particular, almost outdated understanding of set-off. If these considerations are applied to international arbitration, it becomes obvious that the lex loci arbitri approach is not an appropriate choice-of-law rule. Its application is not plausible against the background of the majority of the other set-off laws.184 Furthermore, in the majority of cases, set-off operates outside judicial proceedings. It is therefore a legitimate interest to determine the applicable set-off law independently from any judicial proceedings. The lex loci arbitri approach is obviously in contrast with this desire. However, it has been said that ‘the conflict of laws is a province of law where hypocrisy is rife’.185 The argument is that the rules of conflict of most countries would reflect a ‘universalist attitude’. They would try to implement the principle that the same substantive rule should be applied to the same matter, regardless of which state will assume jurisdiction. This is often referred to as the principle of equality of legal systems.186 However, it is further argued that those conflict rules would not give a realistic impression of the law as applied by the courts. Despite the universalist colour of conflicts rules, the courts applying them would often be tempted to favour their own law. In doing so, they would primarily be guided by a feeling that the application of their own law is generally supported by considerations of justice and expediency. This has been disguised as hypocrisy, and it is therefore argued that the lex fori approach would perhaps be a more honest expression of the courts’ daily routine than the multilateral rules to which the courts would often pay no more than lip service.187 These considerations have some merit in state court proceedings. With regard to international arbitration, however, they are not convincing. The lex loci arbitri theory perpetuates the lex fori approach of classic conflict of laws; this makes it unsuitable for various reasons. First, as has been shown,188 the lex fori approach is nourished by the creed that one’s own law is the best. This reasoning cannot be applied to international arbitral tribunals, which, when applying the lex loci arbitri, do not apply their own law.189 Second, the lex loci arbitri approach is a rather antiquated solution, at least in countries with a highly developed arbitration culture. The theory has not been

184

See also Bertrams, Festschrift Kokkini-Iatridou (above n132) 153, 159. Lando, Festskrift till Knut Rodhe (above n101) 311, 319. 186 ibid. 187 ibid. 188 See above at 161−62. 189 See Kaufmann-Kohler, 36 Vand J Transnat’l L (2003) (above n36) 1313, 1331. (‘An arbitral tribunal has no lex fori and hence no “foreign” law. Or differently put, it has only foreign law. Whatever the perspective, the issue is the same.’) 185

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completely abandoned, but its importance today is marginal, apart from countries with a traditionally hostile position towards arbitration. The lex loci arbitri approach fits ill with the international character of arbitration. It is in fact based on the idea that an international arbitration can be equated to a local court.190 This idea can no longer be upheld. The international arbitrator has been empowered to dispense justice by the parties; it does not exercise public or institutional power in the name of the state. ‘Mais les arbitres ne rendent pas la justice au nom d’un Etat; […] ce sont les contractants qui ont décidé qu’en cas de différend dans l’exécution du contrat, un arbitre serait le juge, […]. Alors, si l’arbitre ne détient ses pouvoirs que de la volonté des parties, pourquoi appliquerait-il des règles de conflits et, partant, lesquelles? […] [L]’arbitre ne peut appliquer une règle de conflit que dans la mesure où les parties l’ont prévue […]’191 Most notably, however, the lex loci arbitri doctrine must be rejected because the choice of the place of arbitration may be influenced by a number of considerations that have no bearing on the issue of applicable law.192 These may be practical reasons such as geographical proximity, developed infrastructures or interesting locations. In their choice of the place of arbitration, the parties may be guided also by other considerations, such as restricted or expanded possibilities to challenge the arbitral award, the state’s legislation regarding enforcement of interim, security and other measures ordered by the tribunal, etc., but they are not necessarily so. Particularly where the arbitral seat was selected by the arbitral institution, the substantive law at the seat of arbitration might have no correlation to the case whatsoever.193 Provisions would be applied the connection of which to the legal dispute would be purely coincidental. Therefore, the lex loci arbitri doctrine is not a satisfactory solution to choice-of-law questions in international arbitration, neither in general nor in connection with set-off.

v Summary The lex loci arbitri approach is an adaptation of the lex fori approach to the setting of international arbitration. It appears to be simple and handy. Furthermore, although forum shopping under the lex fori approach has always been one of the concerns about the lex fori theory, this risk is relatively minor in connection with set-off. However, the lex fori approach does not always provide for predictable results.

190 See, eg, Mann, 2 Arb Int (1986) (above n15) 241, 244 (‘In the legal sense, no international commercial arbitration exists … [E]very arbitration is a national arbitration, that is to say, subject to a specific system of national law …’). 191 Batiffol, Henri, Les contrats en droit international privé comparé, (Institut de droit comparé, McGill University, 1981) 6. Similarly Craig, Park and Paulsson (above n16) ICC Arbitration, 322; Lalive, Rev Arb (1976) (above n37) 155. 192 SCC Case 117/1999, Stockholm Arbitration Report 59 (2002). 193 cf Born, International Commercial Arbitration (above n3) 2125.

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Apart from that, the classic lex fori approach is a rather outdated choice-of-law rule. Its legitimacy has long since been doubted in state court proceedings. The approach must be repelled all the more in international arbitration, where the seat of arbitration serves for mainly organisational reasons. It is true that the law of the arbitral seat has important influence on questions such as the annulment of the arbitral award, the ambit of the arbitral tribunal’s competencecompetence, procedural aspects such as the taking of evidence, preliminary measures, consolidation, joinder, and intervention.194 However, the lex loci arbitri approach is not justified with regard to the choice-of-law rules applicable to the parties’ dispute. In light of the modern tendencies of interpreting the phenomenon of international arbitration, already the theory of applying the conflict of laws rules of the arbitral seat is no longer convincing. Even less persuasive is the direct application of the law of the locus arbitri, which does not even pretend to open the possibility to apply another law than the law of the arbitral seat and therefore appears as a manifestation of exclusive belief in the local law.

B The Primary Claim Approach Under Scrutiny It has been shown that one method of solving choice-of-law questions in international arbitration is to apply the conflicts rules which the arbitral tribunal considers ‘most appropriate’.195 With regard to set-off, one possible selection the arbitrators can make is the application of that conflicts rule which provides for the application of the law governing the primary claim. Whether such choice is indeed appropriate will be examined in the following. For the discussion of the primary claim approach, no differentiation between its application in state court proceedings and its use in international arbitration is necessary.

i Predictability and Practicability? a

Depending on Contingencies

It is sometimes said that the primary claim approach is predictable, as it is clear from the beginning that the law of either one or the other claim will apply.196 This appraisal cannot quite be accepted. The question as to which claim constitutes the primary claim and which one the cross-claim will often depend on contingencies.197 In the normal case, the existence and the amount of each of the claims will be subject to lengthy discussions between the parties. The latter 194

For details see Born, International Commercial Arbitration (above n3) 1287et seq. Above at 134−36. 196 Hof Amsterdam, 16 February 1989, Nederlands Internationaal Privaatrecht 1989, No 250; Bertrams, Festschrift Kokkini-Iatridou (above n132) 153, 160 et seq; Lando, Festskrift till Knut Rodhe (above n101) 311, 321. 197 See Graf, Verrechnung (above n86) 93; Bucher, Festschrift von Overbeck (above n86) 701, 715; Jud, IPRax 2005, 104, 107. 195

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will often negotiate about the entitlement to suchs claims, and the definite role allocation of one party being the claimant and the other the defendant will often be a question of who is more convinced of its right or more in need of money (for the dispute will mostly be about money).198 This contingency, however, should not dictate the decision as to which law governs the set-off. First and foremost, the importance attached to the question of who relies on its claim first is not justified, because there is often no logical reason for the chronological order in which the claims are raised. Furthermore, the primary claim approach leads to a lack of predictability: as the question of which of the countervailing claims will serve as the primary claim and which as the cross-claim remains open until the end, the applicable law cannot be predicted more precisely other than that one of the laws governing the claims will apply. b Appropriate for Other Set-off Concepts? Judicially Operating Set-off In jurisdictions where the right of set-off must be exercised in court, set-off is considered to be governed by procedural rules.199 In the past, it was said that the primary claim approach could provide a solution only in cases where the law governing the primary claim considered set-off as a substantive device.200 If it regarded set-off as a procedural instrument, the primary claim approach ought to fail. According to the maxim that procedural issues are governed by the law of the forum,201 a court need not consider foreign procedural law. Instead, a renvoi should take place: the conflicts rule of the jurisdiction governing the primary claim ought to be considered. If that conflicts rule dictated that procedural matters were governed by the lex fori, this should be respected by the choice-oflaw rules of the forum.202 The majority today rejects a renvoi.203 The view prevails that the question of whether the law of the primary claim has dealt with set-off in substantive or in

198

cf Bucher, Festschrift von Overbeck (above n86) 701, 715. Above at 139−41. Kegel and Schurig, IPR (above n81) para 8 V (p 754); Habscheid, Walther J, ‘Zur Aufrechnung (Verrechnung) gegen eine Forderung mit englischem Schuldstatut im Zivilprozess—Eine deutschschweizerische rechtsvergleichende Skizze’, in Barfuß, Werner, Dutoit, Bernard, Forkel, Hans, Immenga, Ulrich and Majoros, Ferenc (eds), Festschrift für Karl H Neumayer zum 65. Geburtstag (Baden-Baden: Nomos Verlagsgesellschaft, 1985) 263, 269 et seq. 201 As to this principle see above at 139. 202 Kegel and Schurig, IPR (above n81) para 8 V (p 754); Habscheid, Festschrift Neumayer (above n200) 263, 269 et seq, 276. 203 For Swiss conflict of laws rules cf Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 para 41; Vischer, Huber and Oser (above n129) para 1110; Bucher and Bonomi (above n61) para 1146; for German law see, eg, decision of the German Supreme Court of 9 June 1960, BGH NJW 1960, 1720, where the court stated that provisions of the foreign procedural law should be applied like substantive provisions if they include a substantive content (the case referred to the analogous problem of prescription, which is considered to be substantive in the continental European legal systems and procedural in Anglo-American jurisdictions, see Lando in International Encyclopedia of Comparative Law (above n46) para 229; Spiro, 18 ICLQ (1969) (above n41) 949, 952); cf also 199 200

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procedural law is not decisive. It must be examined whether the device found in the law governing the primary claim is functionally equivalent with set-off as it is understood in the law of the forum.204 Thus, with regard to the involvement of set-off laws which consider set-off to be procedural, the primary claim approach cannot be impugned. Ipso iure Set-off Another concern remains. The primary claim approach reflects the understanding of set-off as a self-help instrument requiring extra-judicial declaration by one party to the other. Under this premise, it is always possible to identify one claim as the primary claim and the other claim as the cross-claim, since it is the cross-claimant who will defend itself against the primary claim by declaring set-off with its cross-claim. However, it is at least doubtful whether the primary claim approach leads to a solution where the law of the primary claim or the cross-claim has adopted a set-off concept where no such identification of the two claims is made. The question relates to the French and French-based law of set-off. Those jurisdictions have embodied the ipso iure-mechanism, where the countervailing claims are extinguished as at the time they were eligible for set-off.205 Since set-off takes place automatically, it is impossible to say which the primary and which the cross-claim is, and the primary claim approach ought to fail. Thus, for some authors, the primary claim approach is incompatible with ipso iure set-off systems.206 However, it has been noticed that what has been left of the original ipso iure-system is that set-off is deemed to have taken effect as at the date the claims were eligible for set-off, but that set-off must be asserted and is not observed by courts or tribunals ex officio.207 Since set-off must be asserted by one of the parties, the difficulties in determining the primary claim and the cross-claim vanish.208 Under this aspect, the primary claim approach would be able to deal

Kropholler, IPR (above n81) para 24 II 1 a (p 166); Spellenberg in Münchener Kommentar (above n81), Article 32 EGBGB para 73; Spickhoff in Bamberger and Roth (above n81) Article 32 EGBGB para 10. 204 Decision of the German Supreme Court of 9 June 1960, BGH NJW 1960, 1720; Ferid, Internationales Privatrecht (above n81) para 6–117; Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 para 41; Wild, Peter E, Die Verrechnung im internationalen Privatrecht—unter besonderer Berücksichtigung der schweizerischen und der US-amerikanischen Rechtsordnung (St Gallen: Dike Verlag, 1992) 157 et seq; Zimmerli, Christoph, Die Verrechnung im Zivilprozess und in der Schiedsgerichtsbarkeit. Unter besonderer Berücksichtigung internationaler Verhältnisse (Basel etc: Helbing & Lichtenhahn, 2003) 63. To the functional classification in general see Kropholler (above n81) para 17 I (p 125 et seq). 205 Above at 45−47, 59−61. 206 Bucher, Festschrift von Overbeck (above n86) 701, 721; Jud, IPRax 2005 (above n100) 104, 107; Wild, Verrechnung (above n204) 157. 207 Above at 45−47, 59−61, 125. 208 See also Graf, Verrechnung (above n86) 69, 90 et seq; Mankowski, IHR (2008) (above n79) 133, 151; Metzger, JZ (2004) (above n39) 87, 91.

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with the situation that the law of the primary claim has adopted the ipso iure concept. In any event, the question is obviously disputed to the present day. This causes uncertainty and lessens the practicability and predictability of the primary claim approach. c

Aspects Governed by the Primary Claim’s Law

The law governing the primary claim is said to govern the following aspects: (1) whether the requirements for a set-off are met, (2) how a right of set-off applies, and (3) what the effects of a set-off are.209 Thus, the law of the primary claim applies to all of the three aspects which were taken as a basis in the above comparative survey.210 So far, the primary law approach cannot be arraigned for being impractical or unpredictable. Subjecting all of those questions to one law is a simple and convenient solution. It is, however, doubtful whether the law of the primary claim also governs the question of whether the cross-claim has been effectively extinguished. A considerable number of authors opt for an application of the primary claim law also for determining whether the cross-claim has been extinguished.211 The reason for this approach is to avoid a costly and complicated two-lane solution.212 In contrast, significant voices in literature deem it necessary to subject that question to the law of the cross-claim,213 as the existence, the amount, and the maturity of the cross-claim are preliminary questions that should be governed by the law of the cross-claim. The question is still disputed. This is a disadvantage of the primary claim approach, as it will be unclear which position will be taken by the arbitral tribunal. In light of the present uncertainties, the application of the primary claim approach is not particularly commendable under practicability and predictability considerations.

209 Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 SPILS para 17; Dasser in Honsell, Vogt, Schnyder and Berti (eds) (above n59) Article 148 SPILS para 43 et seq; Dutoit, (above n61) Article 148 SPILS para 6; Bucher and Bonomi (above n61) para 1145; Schnyder, Anton K and Liatowitsch, Manuel, Internationales Privat- und Zivilverfahrensrecht, 2nd edn (Zurich: Schulthess, 2006) para 840; Vischer, Huber and Oser (above n129) para 1119; Frankenstein, Internationales Privatrecht, II (82) 272, 275 et seq. 210 The trichotomy of operation, requirements and effect and set-off was discussed in detail in Chapter 2 of this book. 211 Vischer, Huber and Oser (above n129) para 1121; Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 SPILS para 50; Dasser in Honsell, Vogt, Schnyder and Berti (eds) (above n59) Article 148 SPILS para 18. 212 ibid. 213 See Bucher, Festschrift von Overbeck (above n86) 701, 717 et seq; Coester-Waltjen, Festschrift Lüke 35 (above n81) 37; Martiny in Reithmann, Christoph and Martiny, Dieter (eds), Internationales Vertragsrecht. Das internationale Privatrecht der Schuldverträge, 6th edn (Cologne: Verlag Dr Otto Schmidt, 2004) para 284; Gebauer, Jahrbuch für italienisches Recht 12 (1999) (above n86) 31, 36.

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d Foreign Law of Set-off Partially Settled in Substantive and Partially in Procedural Law Another question is whether the primary claim approach can appropriately deal with situations where the national law provides for set-off provisions both in substantive and in procedural law. This will, for example, affect German or Austrian law, where set-off is a substantive instrument, governed by substantive provisions, but where the picture would be incomplete if procedural law were not also considered. In the aforementioned jurisdictions, whereas substantive law is silent on the requirement of liquidity, procedural law allows a court not to deal with an unliquidated cross-claim.214 The question has practical relevance where, for instance, an arbitral tribunal comes to the conclusion that the set-off is governed by German law. Will paragraph 302(1) ZPO have to be considered, according to which the court may render a decision on the main claim and leave the adjucation of the cross-claim for a later stage, if the cross-claim is not ripe for decision? The question was sometimes raised in the past with regard to state court proceedings and has been answered in the negative. If liquidity and connectivity were settled in procedural law, they were considered as falling outside the reference to foreign law.215 Not many authors have discussed the question in recent times. The few that have touched upon it adhere to the older literature.216 The question actually deserves to be further explored. Liquidity will be considered as a requirement of set-off if it is settled in substantive law, as in the French and French-based legislations.217 However, in light of the historical development of set-off, it is more than doubtful that the decisive criterion should be whether the applicable law has classified liquidity as substantive or procedural. The rationale of requiring liquidity has remained the same, namely to prevent an undue protraction of judicial proceedings. To refer to the same exemplary jurisdictions, both the French and the German law are of Roman law heritage. It is mere coincidence that the French Code Civil was drafted at a time where Roman law scholars attached an entirely substantive character to set-off, whereas the German codification was drafted more than a century later, where Roman law jurisprudence regarded liquidity as a judicial tool.218

214

See above at 75−78, 94−95. See Kegel, Gerhard, Probleme der Aufrechnung: Gegenseitigkeit und Liquidität, rechtsvergleichend dargestellt (Berlin and Leipzig: de Gruyter, 1938) 175; Dölle, 13 RheinZ (1924) (above n42) 32, 42 et seq; Graf, Verrechnung (above n86) 109; Zitelmann, IPR, II (above n42) 249. 216 See, eg, Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 SPILS para 46; cf also Busse, 13 MDR (2001) (above n82) 729, 734. Both consider liquidity and connectivity to be procedural provisions that are governed by the lex fori. 217 Above at 47−50, 61. 218 Above at 75. 215

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If such considerations are taken into account, the primary claim approach is not as clear-cut as one might wish. Uncertainties arise as to which provisions of the appointed law exactly are referred to, which lessen the practicability and predictability of this approach. It must be added that the problem as to how to deal with the situation where set-off provisions of the appointed law are spread across substantive and procedural law can only be avoided if a lex loci arbitri approach is taken. Only if it is assumed that a set-off is always governed by the law of the place of arbitration can the question of whether a requirement is procedural or substantive be neglected, as the whole case is governed by the procedural and substantive provisions of the law of the forum. For all other situations it must be decided whether liquidity and connectivity requirements that are settled in procedural law are to be taken into account. This affects the practicability and predictability of all choice-of-law approaches except for that of the lex loci arbitri, casting doubts on their suitability as a rule to determine the law of set-off as such.

ii Elimination of Manipulation? The primary claim approach is indeed susceptible to shrewd tactics. Let us assume that one of the two possible applicable laws requires liquidity of both claims and that the other law does not provide for such a requirement. Let us further assume that the claims at hand are not liquidated. The party who wishes to set off its claim could try to have the law favourable to set-off applied. If the law of its claim were the more favourable, it could, for example, assert part of its claim at a time where it would be very inconvenient for the other party to immediately fulfil. The other party would then counter with its cross-claim, whereupon the first party, again, would set off the remaining part of its primary claim against the other party’s cross-claim.219 By being the first to assert its claim, the first party’s claim becomes the primary claim, with the consequence that its—set-off friendly—law applies. The primary claim approach is thus susceptible to manipulation.

iii Appropriateness The theory of the application of the law of the primary claim is usually justified by the argument that the party against whom set-off is asserted is particularly worthy of protection. It is said that, since its claim is extinguished against its will and without its receiving fulfilment, but a substitute for fulfilment, it is the party whose interests rank before those of the party asserting set-off.220 Another argument often relied upon to support the theory of the application of the 219 See the example in Ehrenzweig, Armin, System des österreichischen allgemeinen Privatrechts, Vol II/1: Das Recht der Schuldverhältnisse, 2nd edn (Vienna: Manz, 1928) 339 et seq. 220 cf, eg, Spellenberg in Münchener Kommentar (above n81), Article 32 EGBGB para 70; Spickhoff in Bamberger and Roth (above n81) Article 32 EGBGB para 60; Ferid, Internationales

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primary claim is that the party asserting set-off has allegedly renounced the application of ‘its law’, that is, the law of the cross-claim.221 The arguments are regularly stated without providing in-depth reasoning. As can be seen, the main pillars of this theory are not substantive fairness arguments, but ‘choice-of-law fairness’ considerations. They are true to the classic conflict of laws dogma that there is no room for substantive fairness considerations at the level of choice-of-law.222 The policy is obviously based on the idea that set-off is a privilege granted to the debtor of the primary claim. The creditor should somehow be compensated for this, and it is deemed just to apply its law. This view cannot be shared by the author. Set-off might indeed be a privilege. This privilege, however, is already limited and controlled on a substantive law level, namely through the requirement of certain criteria and, in particular, through the fact that set-off is excluded by law in certain situations. It is not necessary also to ‘punish’ the debtor at the choice-of-law level and have the creditor’s law applied. The argument that the creditor should be protected in its reliance that set-off can only take place in the circumstances indicated by its own law could only be advanced if it really were an aim to prohibit set-off—but, as has been shown, today’s law is far from that.223

iv Summary The primary claim approach is not suited as a uniform choice-of-law in international arbitration. To start with, the determination of the law of set-off depends on the contingency of which party asserts its claim first. Who is the first to assert its claim is not an appropriate criterion for deciding which law governs the set-off. Furthermore, the primary claim approach is neither practical, nor does it lead to predictable results. There are uncertainties with regard to whether the primary claim approach can be applied where the law governing the primary claim has adopted the ipso iure concept. Further discrepancies relate to the question of whether the fate of the cross-claim is governed by the law of the primary claim or the law of the cross-claim. Such open questions lessen the quality of the primary claim approach. Two aspects are particularly unsatisfying. First, the primary claim approach is susceptible to tactics. A party who wants to set off and would be allowed to do so under the law governing its claim, but not under the law governing the other claim, can assert (part of) its claim first and thus decide over the applicable law. The second unsatisfactory point is that the primary claim approach gives highest priority to the fact that the creditor of the primary claim does not receive actual Privatrecht (above n81) para 6–115; Stolzke, Aufrechnung (above n43) 36; Gebauer, 12 Jahrbuch für italienisches Recht (1999) (above n86) 31, 36; Mankowski, IHR (2008) (above n79) 133, 151; Metzger, JZ (2004) (above n39) 87, 91. 221 222 223

Mankowski, IHR (2008) (above n79) 133, 151. Above at 154−57. Above at 9−12.

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performance and that its claim is extinguished against its will. The idea of protecting the creditor, however, is not supported by the results from the comparative survey.224 These suggest that the parties’ interests must be brought in equilibrium; there is not a discernible policy of set-off friendliness, and there certainly is not a discernible policy of set-off hostility. Accordingly, the purpose of protecting the creditor, as embraced by the primary claim theory, goes too far.

C The Cumulative Approach Under Scrutiny i Introduction It is to be examined whether the cumulative approach lends itself as a uniform rule of determining the law governing a set-off. Reportedly, the tendency in international arbitration is to favour the cumulative approach over other choiceof-law rules depicted here.225 This observation obviously refers to the fact that arbitral tribunals have occasionally applied the tronc commun approach to determine the law applicable to set-off.226 Indeed, the cumulative approach resembles the tronc commun method, as it is used in international arbitration, but it is not identical. The cumulative approach of classic conflicts of laws requires the application of those provisions in the respective laws that are congruent. Requirements (or other provisions) which are not common to both laws but are provided by one law only must additionally be observed. The requirements of both laws are ‘cumulated’. Alternatively, under the ‘mild’ cumulative approach, each claim must meet the requirements of its own law. In contrast, the tronc commun method (a) considers not only the law of the primary claim and the cross-claim, but also other laws with which the case has some connection; and (b) calls for the application of those rules that are common to all laws, but does not require that the remaining requirements (or other provisions) for which the laws provide and which differ from one another be added to the common trunk. The tronc commun method will be discussed below in section V. Another differentiation is necessary. In international arbitration, two cumulation methods are theoretically possible. The first is the cumulative application of conflict of laws rules.227 This way of determining the applicable law is particular to international arbitration and has no counterpart in state court proceedings. The cumulative application of all possibly relevant choice-of-law rules will be discussed below in section V, together with other concepts that have been applied in international arbitration only. The discussion here relates to the second 224

Above at 123 et seq. See Berger, Klaus Peter, ‘Die Aufrechnung im Internationalen Schiedsverfahren’ Recht der Internationalen Wirtschaft (1998) 426, 427; Keller and Girsberger in Girsberger et al (eds) (above n59) Article 148 para 56. 226 See below at 182 et seq. 227 Above at 180−82. 225

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possible cumulation theory, as it has been described above.228 According to this approach, the laws of the primary claim and the cross-claim are applied cumulatively.

ii Practicability The practicability of the cumulative approach shall be assessed based on the discussion of set-off requirements, operation, and effects. With regard to the requirements of set-off, the cumulative approach is not as impractical as it may seem at first sight. The cumulation theory may be more laborious than those approaches which appoint one single law (so-called unitary approaches), as it is necessary to scrutinise two laws rather than one.229 However, the arbitral tribunal can save the effort of doing a proper choice-of-law analysis, which would often be more complex and lengthier than a double consultation of two laws of set-off. In relation to the operation and effects of a set-off, a distinction must be made between the strict and the mild cumulation approach. The strict cumulation approach is quite clear-cut: the stronger law prevails. Whether one likes the result or not, the strict cumulative approach is, at least, not impractical. However, one is mystified when the mild cumulative approach is applied. It leads to ‘limping’ situations where one law requires judicial assertion, whereas the other contents itself with an informal declaration, or where the effects were retroactive under the first law and ex nunc under the second. These constellations cannot be solved by means of subjecting each claim to its own law. The mild cumulative approach is, thus, highly impractical. A third proposal suggests that the primary claim approach should determine the applicable law as to the operation and effects of set-off, whereas the cumulative approach would be used with regard to set-off requirements. This ‘split’ approach is also unsatisfactory. The difficulties of the primary claim approach have been highlighted above.230 A further impracticability of the split approach is its use of two different choice-of-law rules to solve one legal problem, namely the law applicable to a set-off. This is an inefficient and unhelpful inflation of the choice-of-law question.

iii Predictability and Elimination of Manipulative Tactics On the level of predictability and prevention of manipulations, at least, the cumulative approach cannot be impugned. Irrespective of whether the strict or the mild version is applied, the applicable laws will be those governing the 228

Above at 146−50. This has recently been stressed by Busse, MDR 13 (2001) (above n82) 729, 733 (‘for the most part, [it] complicate[s] […] the application of the law, which is not made up by [its] real or alleged advantages’). 230 Above at 167 et seq. 229

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countervailing claims.231 At two points, however, predictability may suffer. First, it may be unclear whether the strict or the mild approach is applied. There is thus uncertainty in this respect. Second, if the ‘split’ approach is applied, the risks of unpredictability and manipulation with regard to the primary claim approach apply here as well.

iv Appropriateness The cumulative approach ensures that none of the laws at issue are neglected. This can be explained against the background that the cumulation model is based on the idea that set-off is an instrument operating ipso iure that does not depend on the parties’ will. Two mutual, similar, and liquidated claims232 confronting each other suffice to effectuate set-off. Thus, the idea of privileging one of the claims is alien to the cumulation system. It has been doubted in literature whether the consideration of the cross-claim’s law is justified at all.233 Although it was true that set-off brought about the extinction of the cross-claim, this would not alter the fact that set-off was focused on discharging the primary debt. The cross-claim’s extinction would merely be the means by which the goal of set-off was accomplished.234 This view is based on the ‘Germanic’ perception of set-off which adheres to the primary claim approach.235 Set-off, however, is defined by a double extinction of debts. As soon as the extinction of more than one debt is at issue, it is not justified to spotlight the primary claim and neglect the cross-claim. As set-off requires the existence of two claims, it is reasonable to treat the two claims equally by taking the law of both claims into account. However, none of the versions of the cumulative approach are satisfying. The rationale behind the strict cumulation approach is that a party should not be exposed to a set-off with which it would not have to reckon under its own law, only because the requirements of the other (foreign) law are milder than those of its own law. That the stricter law will always prevail, however, is not quite in concert with the results of the comparative survey,236 according to which the interests of both parties must be equally balanced. The mild cumulative approach does not lend itself as a uniform model rule either. It is a ‘non-solution’, since it does not resolve the intricate questions. To subject each claim to its own law appears to be as absurd as if the conclusion of a contract were governed by two laws. Finally, the proposal to apply the law of the primary claim to determine the effects of a set-off is not convincing either. This proposal suggests a pluralism of 231 Batiffol and Lagarde (above n43) para 614; Bertrams, Festschrift Kokkini-Iatridou (above n132) 153, 159. 232 As to the requirement of liquidated claims see above at 47−50. 233 Bertrams, Festschrift Kokkini-Iatridou (above n132) 153, 160 et seq; Stolzke, Aufrechnung (above n43) 35. 234 ibid. 235 Above at 142 et seq. 236 Above at 123 et seq.

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choice-of-law methods. It thereby combines different rationes: the notion of considering both parties’ law under the cumulative method and the need to protect the creditor under the primary claim approach. These ideas are at odds with each other, and their combination cannot possibly be a harmonious choice-of-law rule. Most tellingly, however, the mixture of two choice-of-law methods unmasks the cumulative approach as an incomplete rule which is ineligible as a uniform model rule.

D The Theory of Applying the Law of the Claim Which Existed First Under Scrutiny The difficulty with the theory of applying the law of the claim which existed first is that it is based on a chronology of the claims arising. The chronology of the claims will often be purely coincidental. Let us assume that a Swiss bank lends an Italian bank money. The loan is subject to Swiss law. Later, the Swiss bank gives the Italian bank a guarantee in favour of a Swiss merchant; the bank guarantee is governed by Italian law. When the Swiss merchant becomes insolvent, the Italian bank claims the guarantee from the Swiss bank. Swiss loan law allows for the loan sum to be reclaimed at any time.237 If the Swiss bank has anticipated the merchant’s insolvency, it may be first to reclaim the loan, thus Swiss law will govern an eventual set-off. Otherwise, the Italian party’s claim will be the primary claim, to the effect that Italian law applies. The example shows how fortuitous the chronology of the claims can be. It further illustrates that the said approach invites manipulation tactics. Such dependence on coincidences is not a reliable basis for a uniform choice-of-law rule.238

E The Doctrine of Applying the Law of the Claim Which Arose Second Under Scrutiny The proposal to apply the law of the second claim is subject to the same criticism as the theory of applying the law of the claim which arose first. The applicable law is predictable only to a limited extent. Which will be the first and which the second claim will more often than not depend on a coincidence. Although the parties have to reckon that either the law of the primary claim or that of the cross-claim applies, the question will not be solved prior to the occurrence of a set-off situation.239 Furthermore, the theory of the law of the second claim does not sufficiently take into consideration the plurality of set-off mechanisms

237 238 239

Article 310 CO. See also Rolin, Principes de DIP (above n171) 580. Similarly Graf, Verrechnung (above n86) 89.

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world-wide. It is no coincidence that the theory was developed in France where set-off is deemed to occur automatically at the time the two claims face each other first time.240 If set-off shall take place ipso iure, it is indeed important to know when the second claim arose, because this will be the time set-off occurs. However, in those jurisdictions where set-off must be asserted by one of the parties, the point in time when the second claim arises is not essential. It is therefore not appropriate to elevate the time element to be the crucial factor in the determination of the applicable law.241

F The Application of the Lex Loci Solutionis Under Scrutiny The lex loci solutionis theory, according to which the law of the place where the primary claim was to be fulfilled applies, bears some resemblance to the primary claim approach. Both concepts concentrate exclusively on the primary claim. The lex loci solutionis approach is, therefore, subject to the same criticism as the primary claim theory, namely that the exclusive focus on just one of the two claims involved in a set-off is inappropriate.242 In international arbitration, the lex loci solutionis approach does not seem to have been applied.243

G The Proposal to Apply the More Set-off Friendly Law Under Scrutiny This so-called ‘alternative theory’ aims at applying the law that is more favourable to the party who is worthy of protection. It is an attempt to overcome the strict striving for choice-of-law fairness and include certain substantive fairness in the rule of conflict.244 The theory of applying the more set-off friendly law is not particularly useful. In order to assess the applicable law, both the law of the primary claim and that of the cross-claim must be scrutinised to find out which one is more favourable to set-off. Unlike the cumulative approach, not only must the respective contents of both laws be considered; the favourability approach demands in addition that both laws are measured, assessed and balanced. This can be time-consuming, costly, and may lead to increased errors rates. Furthermore, predictability and certainty may suffer. In most cases, there will not be ‘a 240

See above at 45. See also Kannengießer, Aufrechnung (above n121) 113. 242 See above at 167−68: Zitelmann, IPR, II (above n42) 371 et seq, who vehemently opposed the lex loci solutionis theory, based his criticism on general points that have more or less been resolved today, such as which law should determine what the place of performance is, or how the place of performance can be determined where place of delivery and place of receiving performance are not identical. As to these difficulties, see also Scoles, Hay, Borchers and Symeonides (above n125) para 18.7 (p 977). 243 See, eg, Award in ICC Case No 3540, VII YB Comm Arb VII (1982) 124, JDI (Clunet) 1981.913, where the lex solutionis approach was not even considered. 244 Above at 159. 241

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set-off friendly law’ and ‘a set-off hostile law’. Rather, within one and the same law, some provisions will be more favourable to a set-off and some will aim at protecting the interests of the other party. It will often be difficult to determine which of the laws is in its totality more set-off friendly. Such assessment may vary depending on the circumstances of the case, which again diminishes predictability. The main difficulty with the alternative theory, however, is that it has a one-sided focus on set-off friendliness. To subscribe to a choice-of-law rule because it favours the institute at hand is dangerous. It would only be worth considering if there were a strong, indubitable policy underlying the instrument at issue. Such overwhelming policy is lacking in the case of set-off. Set-off friendliness is not so pronounced as to form a real concept. A general motivation to always look for a set-off friendly situation cannot be taken from the comparative survey.245 Thus, notwithstanding the benefits a set-off may have, set-off friendliness must be put in context with the other criteria that define an ‘ideal’ rule to determine the applicable law, such as foreseeability, practicability, feasibility. Weighing the various factors, a choice-of-law rule that bases itself on set-off friendliness only must be rejected.

H Conclusions Traditional choice-of-law rules are not a suitable instrument to determine the applicable law of set-off in international arbitration. The lex fori approach is a generally outdated rule. Modern legislation and international conventions have abandoned the lex fori approach in international contract law. Its legitimacy in international arbitration is all the less justified; the lex loci arbitri attaches a meaning to the seat of the arbitration which it does not have. The primary claim approach is neither very practical nor predictable. In particular, it is based on the idea that the creditor must be protected. This is a choice-of-law consideration which cannot be sufficiently supported from a comparative perspective. The cumulative approach, again, is either too strict or leads to unbearable ‘non-solutions’. The doctrines of applying the law of the claim which arises first or second focus inappropriately on a temporal criterion. The theory of applying the law at the place where the primary claim ought to be performed concentrates on the primary claim only. Finally, the alternative theory, which suggests the application of the more set-off friendly law, places too much emphasis on the fact that set-off ought to be allowed to the largest extent possible. Thus, with respect to classic choice-of-laws rules for set-off, it seems to be true that each solution can only be an attempt to cut the Gordian knot.246

245 Above at 158−60. Contra facilitating set-off on the choice-of-law level also Magnus, Yearbook of Private International Law 8 (2006) (above n95) 113, 119. 246 Mankowski, IPRax (2006) (above n79) 101, 111.

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V Other Choice-of-Law Solutions in International Arbitration So far, possible solutions have been discussed that have been advanced in classic conflict of laws but which could also be applied in international arbitration. The theories were tested for their usefulness as a uniform rule in international arbitration. Each of the theories was found to be unsatisfactory for various reasons.247 It was shown above that international arbitration provides for possibilities to determine the applicable law that go beyond classic choice-of-law solutions.248 It must be examined whether one of those approaches could be advocated as a uniform model rule to deal with the issue of the law applicable to a set-off in international arbitration. The doctrine to apply several conflicts rules cumulatively will be discussed first (section A). An overview of the tronc commun approach (section B) and the application of a-national rules of law (section C) will follow. The two doctrines will be compared below (section D). Based on the results of this evaluation, the shape of a uniform rule for set-off will be discussed (section E).

A The Cumulative Application of Conflicts Rules One approach to determine the applicable law in international arbitration has been the cumulative application of all choice-of-law rules involved in the dispute. This approach has occasionally been used where the applicable arbitration law or arbitration rules provided that the arbitrators may apply, in the absence of parties’ choice, the rule of conflict that they deem applicable.249 The cumulative conflicts rules approach could also be relied on to determine the law applicable to a set-off. There are, however, good reasons to depart from it, as the analysis of the following case will show. In ICC Case No 5314,250 which dealt with a dispute concerning a licence agreement, the arbitral tribunal resorted to the cumulative application of conflicts rules and found that all three conflicts rules involved in the dispute pointed to one and the same law, namely the law of Massachusetts. The finding of the arbitral tribunal is not immediately comprehensible. The ‘closest connection test’, as it was applied in the case at hand, did not actually lead to the same result, as the criteria which decided the closest connection were not the same in all three jurisdictions involved. For Switzerland, the closest connection in such a case

247

Above Chapter 2, section IV. Above Chapter 2, section I. 249 Above at 133. 250 Interim Award in ICC Case No 5314, XX YB Comm (1995) 35. For the particular choice-of-law constellation in the case see above at 133. 248

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would have been with the place of the domicile of the licensor. For Italy, it would have been the solution of the Rome Convention of 1980, namely, in principle, the law of the country where the party who has to perform the characteristic obligation has its habitual residence—with the possibility of rebutting the presumption if the circumstances indicate some other country with which the connection of the case is closer. For the United States, the ‘most significant relationship test’ requires consideration of a series of factors, such as the place of contracting, the place of negotiation, the place of performance, the location of the subject matter of the contract, the domicile, residence, nationality, place of incorporation and place of business of the parties.251 Swiss conflict of laws rules would, thus, have pointed to Italian law. This would also have been the general rule of the Rome Convention, which has been implemented by Italy. It could be that the American conflict of laws rules too would have come to Italian law, if the arbitral tribunal had focused on criteria other than the one chosen. It was only by overriding Swiss law and extensively interpreting Italian choice-of-law rules that the application of the substantive law of Massachusetts could be argued. Given that the dispute involved a licence agreement, the tribunal’s practice seems particularly hazardous with regard to the Swiss conflicts rule, as the SPILS contains an express provision in the SPILS that contracts on intellectual property are subject to the law of the state in which the party transferring the right or granting a licence has its habitual residence.252 The analysis of ICC Case No 5314 shows that the conclusion of the tribunal as regards the applicable law was ‘forced’, and that, under the same method, a different tribunal might have found Italian law to be applicable. The case is also a nice illustration of the problem caused by the differing fairness concepts in choice of laws. All three conflict of laws rules reflected a classic ‘choice-of-law fairness’ approach. That is, not the ‘best’ law in terms of ‘best substantive law’ was sought, but the law which had the closest spatial connection to the present dispute.253 Nonetheless, each conflicts rule involved in ICC Case No 5314 considered another connection to be the closest. Applied to set-off, the cumulative conflicts rule approach causes chaos. For instance, how can the primary claim approach, the lex loci arbitri approach, and the alternative approach be reconciled? Each of those doctrines has encapsulated another idea of choice-of-law fairness, and it will only be by mere chance that the three approaches applied together lead to one and the same law. This was the

251 252 253

For references for each domestic conflicts rule see ibid, at 37–38. Article 122(1) SPILS. As to the differentiation see above at 154 et seq.

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case, for example, in ICC Case No 6281,254 where it was by mere coinidence that all conflicts rules involved (French, Egyptian, and Yugoslavian) pointed to the law of (former) Yugoslavia.255 Thus, the cumulative approach of all conflict of laws rules does not lend itself as a model that could be promoted for set-offs in international arbitration.

B The Tronc Commun Approach Another method which has been used to determine the applicable law in international arbitration is the tronc commun approach. The arbitrators investigate the laws at issue and apply those provisions which are common to all laws (the common trunk, le tronc commun). Gaps are filled by recourse to general principles or usages prevalent in the countries concerned.256 The tronc commun approach bears some similarities to the cumulative approach, which have been discussed above.257 The ICC Case No 5971 is one of the few arbitral awards that have been reported with regard to set-off. It is an illustration of the tronc commun approach applied to set-off. The facts of the case will be outlined here, whereas the detailed case analysis will follow later, together with an analysis of another ICC Case.258 In ICC Case No 5971, which was reported in 1995,259 the tribunal had to decide whether the defendants, two entities from former Yugoslavia, could raise a set-off defence against the claimant, a Swedish company. The set-off claims did not arise out of the same contract as the primary claim, but out of other agreements between the same parties. The contract out of which the primary claim arose provided for the application of Yugoslav law, whereas the agreements out of which the cross-claims arose both provided for Swiss law. The lex loci arbitri was French law. The tribunal quoted Article 1496 of the French Nouveau Code de Procédure, which was the arbitration law of the place of arbitration and which allows the arbitrators to determine the conflict rules which they consider appropriate. With reference to ‘very extensive scholarly writings which need not be cited in the framework of this Award’,260 the tribunal considered it sufficient to indicate

254

Award in ICC Case No 6281, Collection of ICC Arbitral Awards II: 1986–1990, 394. Whereas Yugoslavian and French conflict of laws rules provided for the application of the law of the state where the seller had his place of business at the time the contract was concluded, Egyptian conflicts rules determined the law of that state where the contract was concluded to be applicable. Coincidentally, the contract was concluded at the seller’s place of business, which led to the application of Yugoslavian law, see ibid, at 395. 256 See above at 135. 257 See above at 174−75. 258 Below at section D. 259 Award in ICC Case No 5971, ASA Bull (1995) 728. 260 Final Award in ICC Case No 5971, ASA Bull (1995) 728, 740. 255

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[T]hat the Arbitrator is free to operate the so-called ‘voie directe’. This also means that the Arbitral Tribunal does not have to apply the French Private International Law. Moreover, the Arbitrator may make a comparative approach in respect of the solutions as offered in the substantive laws which have the closest connection, and if the various laws harmonize it will not be necessary to discuss the conflicts of laws principles which may be applied.261

The tribunal went on with a comparison of French and Yugoslav law. It distilled the following four requirements, which it considered to be required by both jurisdictions: reciprocity, fungibility, exigibility, and liquidity of both claims.262 As ‘the requirements [were] satisfied under both legal systems’, the tribunal concluded that it had to deal with the set-off.263

C Application of A-National Law i Introduction Another approach under the voie directe method needs illustration. Many arbitration laws and arbitration laws provide that an arbitral tribunal, when asked to determine the applicable law, may resort to a-national law such as the UNIDROIT Principles, the PECL, the lex mercatoria and the like.264 Voie directe and application of a-national law is sometimes confused, but they concern different questions. It could, be, for example, that an arbitration law does not allow for voie directe and requires a conflict of laws analysis first, but that the rule of conflict which it chooses allows for the application of a-national law. Or the arbitration law allows for voie directe, whereby the law determined by the tribunal must be existing law, that is, either a domestic law or international conventions such as the CISG, the CMR, etc. Whereas international conventions also constitute ‘a-national’ or ‘de-nationalised law’, the latter terms are generally used with regard to international sets of rules of a merely persuasive character (sometimes also called ‘soft law’).265 In order to use clear terminology, the application of a-national soft law such as the lex mercatoria will be referred to as the ‘advanced voie directe method’ in the following. This term should make it clear (a) that the arbitral tribunal determines the law without making the detour of conflict of laws rules; and (b) that, unlike the 261

ibid. ibid, et seq. ibid, 741. 264 Above at 135−36. 265 See, eg, ICDR Rules art 28(1), according to which ‘[t] he tribunal shall apply the substantive law or laws designated by the parties as applicable to the dispute. Failing such a designation by the parties, the tribunal shall apply such law or laws as it determines to be appropriate’, as opposed to, eg, art 17(1) of the ICC Rules, which state that ‘[i]n the absence of any such agreement [by the parties as to applicable law], the Arbitral Tribunal shall apply the rules of law which it determines to be appropriate’ (emphasis added). 262 263

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‘traditional’ voie directe method, not a national law or an international convention of binding force is applied, but sets of rules of a merely persuasive authority.

ii The ICC Case No 3540 of 1980 The ICC Case No 3540 of 1980266 is an example where the arbitral tribunal, in voie directe, applied a-national law with regard to set-off. The case involved a French and a Yugoslav party. The latter had agreed to realise parts of a project in Russia, thereby acting as the French party’s subcontractor. In the course of events, the French party initiated arbitration proceedings. The Yugoslav defendant raised a counter-claim, seeking an interim award which would require the French enterprise to payments in the amount of FF 12,212,788.01 with 15 per cent interest as of the day the arbitration was initiated and which would be provisionally enforceable. The French party invoked the defence of non-performance of the contract (exceptio non adimpleti contractus). The arbitral tribunal found that, impliedly, a set-off defence had also been asserted.267 The parties had agreed on an arbitration clause providing for arbitration under the ICC Rules in Geneva, Switzerland. They had further agreed that the arbitrators were to decide as amiables compositeurs. The arbitrators sought to give meaning to the phrase ‘amiables compositeurs’ and tried to find some guidance from the laws involved to decide the question of whether the claimant was entitled to raise the objections of exceptio non adimpleti contractus and set-off. The arbitrators considered Swiss conflict of laws first, according to which Yugoslav law would apply. They then turned to French conflict of laws rules, which would point to Russian law.268 The arbitral tribunal rejected both laws (Yugoslav and Russian) and adopted a voie directe approach instead. While opting for a voie directe, the tribunal preferred not to determine a domestic law which would be applicable in the present case, but rather to base the contract ‘on the contract and the general and common principles of law’ (‘sur le contrat et les principes généraux et communs du droit’).269 The arbitrators then applied the lex mercatoria, which, in case of set-off, was considered to impose the following four requirements on set-off: reciprocity, fungibility, exigibility, and liquidity of both claims.270 The arbitral tribunal held that the requirements were

266 Award in ICC Case No 3540, JDI (Clunet) 1981.913 (with note Yves Derains, 921–27) (French original), YB Comm Arb VII (1982) 124 (English translation). 267 Award in ICC Case No 3540, JDI (Clunet) 1981.913 (918), VII YB Comm Arb VII (1982) 124, 132 (‘regardless of whether the plea for set-off was only, as it seems, made by Claimant subsidiarily or by way of implication as Claimant brought forward, in the first place the exceptio non adimpleti contractus, based on a different legal qualification; […]’). 268 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 915 et seq. 269 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 917. 270 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919: ‘Considérant que selon les principes généraux du droit la compensation non conventionelle exige la réunion de quatre conditions cumulatives: identité et réciprocité des sujets, identité de nature des prestations dues, caractère certain et liquide des créances, exigibilité des créances (c’est-à-dire absence de terme); […]’.

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fulfilled in casu and confirmed the claimant’s right to raise the set-off objection. (It should be mentioned that the question of liquidity posed some difficulties. The discussion concerning liquidity will be resumed in the next paragraph.) As to the effect of set-off, the tribunal held that set-off operates retroactively.271

D Discussion of the Tronc Commun Approach and the Application of A-National Law i Appropriateness a

Undisguised Consideration of Substantive Appropriateness Criteria

Both the tronc commun approach and the application of a-national law are variations of the voie directe doctrine. The voie directe breaks open traditional dogmas of classic laws of conflict. It focuses on the transaction as a whole and elaborates all factors that are relevant to the question of which law is the most appropriate to be applied in casu. The search is for the ‘qualitatively best law’, that is, for the law which is best suited to solve the problem at hand. This is in contrast with the traditional choice-of-law doctrines, which do not relate to the quality of the substantive law to be applied. Classic conflict of laws focuses on the abstract relation between the case and the applicable law, which is commonly defined as the closest connection. The application of the law ‘with which the legal relationship has the closest connection due to its inherent nature’272 is deemed to constitute ‘choice-of-law’ fairness.273 Substantive criteria are irrelevant for determining choice-of-law fairness. The merits of the contract are only considered from a formalistic perspective. This is, at least, the theory. In practice, however, substantive aspects are not ignored in classic conflict of laws either. The ‘alternative theory’, for example, which in the context of set-off has been referred to as the ‘application of the more set-off friendly law’,274 is nothing more than a ‘cumulation of connective factors with a substantive final ballot’ (Anknpüfungsanhäufung mit materiell-rechtlichem Stichentscheid).275 Two or more laws are considered to be relevant; the determining factors as to which law will finally prevail are judgmental considerations. These can be the protection of the weaker party, the best interest and welfare of children, or, in the case of set-off, the more set-off friendly law. All of them are substantive criteria. The same, although with opposite signs,276 holds true for the

271

Award in ICC Case No 3540, JDI (Clunet) 1981.913, 921, VII YB Comm Arb (1982) 124, 134. Savigny, System, VIII (above n135) 28. 273 See also above at 154 et seq. 274 Above at 151−52. 275 Schurig, Kollisionsnorm und Sachrecht (above n124) 28. 276 See Mäsch, Gerald, Rechtswahlfreiheit und Verbraucherschutz (Berlin: Duncker & Humblot, 1993) 29, who interprets the alternative theory and the cumulation theory as ‘two sides to a coin’. 272

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(strict) cumulative approach. Two or more laws are simultaneously applied to the extent they are identical. Where they differ, the law with the stricter requirements prevails. The decisive criterion as to which law will prevail is thus of a substantive nature. The decision in favour of one of the laws is not based on any ‘closest connection’ considerations, but on an evaluation of the substantive laws.277 Hence, there is a considerable number of cases where classic choice-of-law fairness is penetrated by substantive fairness criteria. Apart from substantive infiltrations by way of alternative and cumulation theories, the search for the ‘closest connection’ of the case to a domestic law is often an ‘undisclosed’ substantive appropriateness test.278 Not only is the criterion of the closest connection broad enough to leave space for substantive law considerations; its strictly formal application is also not free from judgmental interests on a substantive level. The abstract determination of the closest connection of a case to a certain law, which should eliminate substantive law influences, is not unknown in international contract law, but it usually encompasses clear-cut situations only, such as one-off contracts for the sale of goods or carriage contracts, and there are almost always exceptions to the general rule.279 For complex business relationships with a multitude of sub-contracts and subagreements, the ‘closest connection’ question is either impossible to answer or will lead to the application of a multitude of domestic laws.280 Substantive law criteria will often be drawn on in order to define the closest connection. The closest connection criterion thus often operates as a covert tool of substantive fairness considerations. The voie directe approach avoids these frictions. Substantive fairness criteria are not disguised with ostensible choice-of-law interests of decisional harmony, but are openly discussed with a view to applying that law which best fits the circumstances of the case. b

Avoidance of ‘Nationalisation’ of the Dispute

Another aspect of the voie directe approach is appealing, at least when applied by way of tronc commun or as advanced voie directe. It evades a ‘nationalisation’ of the dispute, as it is brought about by adhering to domestic conflict of laws. Private international law rules usually point to a domestic law. Traditional domestic law, however, is highly unlikely to have been designed for international

277

See also Kropholler, IPR (above n81) para 4 II. 3. cf, eg, Mistelis, Loukas, ‘The UNIDROIT Principles Applied as ‘Most Appropriate Rules of Law’ in a Swedish Arbitral Award’ 3 Uniform Law Review (2003) 631, 637. 279 See, in particular, art 4 et seq of the Rome Convention / Draft Rome I Regulation. 280 See also Lando, Ole, ‘Some Issues Relating to the Law Applicable to Contractual Obligations’ 55 The King’s College Law Journal (1996–7) 55, 74 (‘The conflict of laws of contract leaves you with the choice between two bad alternatives, between rules which the court may always invoke buth which are so vague that they are more or less meaningless and clear and foreseeable rules which often lead to bad results because they disregard the outcome of the dispute’). 278

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transactions. It ‘cannot cover its dynamics, and is often atavistic or parochial’.281 This reference to domestic law leads to a nationalisation of international cases. In relation to set-off, the problems arising in connection with the application of domestic set-off law have been pointed out above.282 They relate, in essence, to the fact that many national laws set-off have a distinct domestic odour, whereas set-off in an international context would call for uniform rules or guidelines as to the requirements, operation, and effect of set-off. As Berger has pointed out, [T]he natural territorial limitation of the principles and rules contained in domestic laws necessarily leads to the nationalization of international commercial cases, a phenomenon that is irreconcilable with the interests of the international commercial community.283

The tronc commun method and the application of a-national law are both meant to overcome the inadequacies of the traditional path. Their solution is truly international, that is, detached from any national law. De-nationalised law is not per se better than any domestic law. However, ‘transnational rules stand a better chance not to reflect the outdated rules which still may be found in certain legal systems’.284 There is an assumption that these rules are more suited to govern a dispute in an international commercial environment than domestic laws. The rules that are applied either via tronc commun or as a-national law derive their international character from a ‘competition of laws’. Only those rules which stand the test of appropriateness and suitability for transnational commerce survive and form a coherent set of selected rules that are chosen to govern the international dispute at hand. De-nationalisation of the rules that are to govern an international dispute is, on the one hand, a characteristic of the tronc commun and the advanced voie directe approach. On the other hand, however, de-nationalisation is a premise: de-nationalised rules are only then preferable to the classic choice-of-law concepts if they lead indeed to a de-nationalised selection of high-quality transnational rules. Whether the tronc commun or the advanced voie directe approach meet the standard of this premise must be examined in the following.

281 Dalhuisen, Jan H, Dalhuisen on Transnational and Comparative Commercial, Financial and Trade Law, 4th edn (Oxford and Portland, Oregon: Hart Publishing, 2010) 237. 282 Above at 4−5, 127−28. 283 Berger, Klaus Peter, The Creeping Codification of the Lex Mercatoria, 2nd edn (The Hague etc: Kluwer Law International, 2010) 9. 284 Gaillard, 17 Arb Int (2001) (above n21) 59, 61.

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ii Practicability, Predictability and Avoidance of Manipulation Tactics a ‘Ad Hoc Distillation’ of Similarities Versus One Unvarying General Principle of Set-off as the Basic Question The tronc commun approach and the advanced voie directe method use different techniques. The tronc commun theory ‘distills’ those features of the laws at issue that are common. It is an ‘ad hoc distillation’ of similarities of the various national laws. The term ‘ad hoc’ refers to the fact that the similarities are elaborated especially for the case at hand. There is no abstract comparison; tronc commun is the result of a one-to-one analysis of the laws involved in the case. In contrast, the advanced voie directe method applies abstract rules that have not been elaborated on an ad hoc basis, but that belong to the repertoire of truly international rules of law. It must be investigated which of the two methods prevails in terms of practicability, predictability and elimination of manipulation proneness. b Advantages of Ad Hoc Distillation Under the tronc commun approach, the arbitrators mint the law on each occasion. For instance, if in one case a French party wishes to set off against claims of an Austrian party, then an ad hoc distillation of the laws involved will produce a mixture of Franco-Austrian law. In another case, where an English party asserts a set-off against its Dutch counter-party, the law applied will be an amalgam of English and Dutch law of set-off. Lord Mustill has called this ‘blending’ of laws ‘micro lex mercatoria’.285 Such a procedure has the advantage of compromise. None of the laws governing the claims prevails. An ad hoc distillation of similarities of the laws involved guaranties that both laws involved are considered. Another advantage of the ad hoc distillation could be that it means no ‘dogmatic revolution’. Choice-of-law principles need not be completely rethought. The laws involved are compared and their common core applied. These similarities to the cumulative approach places ad hoc distillation close to classic conflict of laws. Ad hoc distillation is not so far removed from the classic rules of conflict as that its application would be concussive. c

Disadvantages of Ad Hoc Distillation

ICC Case No 5971: an Illustrative Example To distil the requirements of set-off that are similar to both laws is easier said than done. As the following discussion of ICC Case No 5971 will show, the comparative analysis of the laws involved is prone to error.

285 Mustill, Michael, ‘The New Lex Mercatoria: The First Twenty-Five Years’ Arbitration International (1988) 86, 92 et seq.

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In the said case, the tribunal had to decide whether two enterprises from former Yugoslavia could assert set-off against a Swedish company. The crossclaims arose out of other agreements between the same parties. The contract out of which the primary claim arose provided for the application of Yugoslav law, whereas the agreements out of which the cross-claims arose both provided for Swiss law. The lex loci arbitri was French law. The arbitral tribunal, in order to determine the law applicable to the set-off, undertook a comparison of laws. However, the comparison remained incomplete. Only French and Yugoslav law were compared, but not Swiss law, which was the law applicable to the agreement from which the cross-claims arose. The reasons for not considering Swiss law were not revealed. The arbitral tribunal might have had in mind two prominent choice-of-law methods, namely the application of either the lex fori (lex loci arbitri, respectively—in casu French law) or the law governing the primary claim (in casu Yugoslav law).286 However, with arbitration taking place in Paris, it is difficult to imagine that the tribunal did not think of the choice-of-law method which prevails in French jurisdictions, namely the cumulative approach287—and the latter calls for consideration of both the law of the primary claim as well as that of the cross-claim, which was Swiss law. It can only be speculated about the reasons for omitting Swiss law. Be that as it may, the tronc commun approach bears the risk of being selective in the comparison of laws involved. A second risk inherent in the tronc commun method is its impreciseness when comparing the various national laws at issue. In the ICC Case No 5971 described above, the tribunal considered reciprocity, fungibility, exigibility, and liquidity to be the set-off requirements common to both French and Yugoslav law. For its assessment of Yugoslav law, the tribunal relied on the Austrian ABGB, on which ‘Yugoslav law (as in force until the late 1980s) was essentially based’.288 The very first task would have been to analyse properly whether the reference to Yugoslav law in the parties’ agreement ought to lead to the old Yugoslav Civil Code, whether its successor should replace it, and, if so, whether any changes had been introduced in the new civil code. These questions were apparently overlooked but would have been necessary to answer in order to undertake a careful subsequent comparison. As to the four requirements listed, it is correct that both French and Austrian law (for the comparison was actually made between these two jurisdictions) provide for reciprocity and fungibility (similarity) of both claims.289 However, when concluding that Austrian law required liquidity of the claims, the arbitral tribunal did not refer to paragraph 391(3) of the Austrian Civil Procedure Act. It 286

As to those conflicts rules see above at 139 et seq, 142 et seq. Above at 146 et seq. 288 Final Award in ICC Case No 5971, ASA Bull (1995) 728, 740. 289 There is a small difference between ‘fungibility’ and ‘similarity’ of obligations, which may be of importance in special cases. ‘Fungibility’ means that the goods are interchangeable, whereas ‘similarity’ refers to goods of the same kind. As set-off usually involves claims for money, the difference may indeed be neglectable. 287

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based itself on paragraph 1438 ABGB, which states, inter alia, that the debts be ‘valid’ (richtig). However, as has been shown, whether the term richtig implies liquidity of the claims is highly debatable.290 This oversight may be regarded as a domestic nicety with which an international arbitral tribunal need not occupy itself. However, in arbitration too, the law must be correctly read and applied. The fact that arbitration provides for relatively flexible structures and is guided by the idea of consensibility and consensuality291 does not allow for a perfunctory application of the law. As a last point, French and Yugoslav law were compared only with regard to set-off requirements. The other two categories, operation and effect of set-off, were not discussed—at least not in the part of the award that was published. The question of how set-off had to be asserted was apparently redundant, as the defendants had asserted a set-off in arbitration proceedings and had thereby fulfilled the strictest form of asserting a right of set-off. The question of when set-off took effect might have been discussed once it had been decided whether set-off was granted. It would have been interesting to see which general principles the arbitral tribunal would have drawn on in order to decide on whether there was an effective exercise of the right of set-off. Temptation to Oversimplify The ad hoc distillation of the common core requires a thorough investigation of the laws at hand. One may be tempted to assume that, if one law provides for a certain requirement, the other law will have a similar requirement. The arbitrators may impose their own understanding of how, when and to what effect a set-off operates; they may then either import their legal background into the foreign law by reading something into it which is not there, or they may content themselves with a cursory overview of the foreign provisions whilst ignoring the exact content of a provision. Temptation to Misinterpret Furthermore, it seems that ad hoc distillation is at an end as far as the questions of operation and effect of set-off are concerned. Unlike the cumulative approach, where either the stronger law would prevail (traditional reading) or each claim would have to comply with the law by which it is governed (progressive reading),292 the tronc commun approach calls for the application of ‘general principles common to both jurisdictions’ to solve the remaining questions. This seems appealing at first sight, as the application of common general principles is borne by consensual thoughts. A closer look, however, reveals that the call for common general principles is an invitation to become imprecise and avoid a careful application of the legal rules. 290

Above at 94−95. Lew, Mistelis and Kröll (above n36) para 1–11; Fouchard, Gaillard, Goldman (above n21) (above n21) para 44 et seq; Redfern and Hunter (above n30) para 1–01. 292 Above at 148−50. 291

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Let us assume that one of the laws requires a judicial assertion of set-off, like English statutory set-off. In order to qualify as a ‘general principle of English law’, it ought to be shown that, in English law, rights must generally be asserted judicially. It would then, in a second step, be necessary to compare the result with the other law which is involved in the dispute. If that law regards set-off as a self-help mechanism and is satisfied with an informal declaration towards the other party, it must again be examined whether it is a ‘general principle’ of that jurisdiction that rights are exercised by way of informal unilateral declaration. If so, and if found that English law generally requires a judicial assertion of rights, there is no common general principle of how the right of set-off operates. The resourceful arbitrator will, however, be able to show that English law will sometimes require a judicial assertion, and sometimes allow for self-help. What then is the general principle? The arbitrator may be quick to assume that the general principle is the exercising of a right in self-help, outside court proceedings. This is what corresponds to the set-off provision of the other law. The arbitrator can thus state as a result that there is a common general principle as regards the operation of set-off, which is by way of informal declaration. This result stands on shaky ground. In order to be sure whether the self-help modus can really be regarded as a general principle of English law, an in-depth analysis would be necessary which would enable an assessment based on a quantitative and qualitative measurement. This is a virtually unachievable task. However, if no measurable proof can be provided, the decision about whether the legal provision at issue reflects a general principle of its legal system is by necessity arbitrary. d

Progressive Summary

The tronc commun approach is a democratic and persuasive method of determining the applicable provisions, but it is highly impractical. The laws must be examined not only as to their wording but also as to whether they reflect a general principle of the respective jurisdiction. This is costly, time-consuming and error-prone.293 Last but not least, the tronc commun approach may lead to unpredictable results. It is uncertain what the arbitral tribunal will find to be the common core. Even more unpredictable are those questions for which there is no common determinator. What the arbitral tribunal will consider to be the common general principles is incalculable. e Advantages of Advanced Voie Directe Unlike the ad hoc distillation approach, the advanced voie directe calls for the application of abstract rules. Theoretically at least, the abstractness and invariance of rules removes the difficulties envisaged with regard to ad hoc distillation. 293

See also Berger, Creeping Codification (above n283) 142.

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The application of a-national law avoids the gaps which the distillation method leaves open when it comes to the operation and effect of set-off, as it provides for a ready-made, universal concept of set-off which is independent of any domestic laws involved in the case at hand. The profile of set-off is stable, as it is independent from the composition of laws in the case at hand. There is no such thing as an Italo-German, Belgian-Chinese, or Swedish-Greek law of set-off. The changelessness of the set-off rule provides for higher practicability and predictability than the ad hoc distillation of the tronc commun approach. f

Disadvantages of Advanced Voie Directe

The difficulties begin when taking a closer look at how arbitration practice has dealt with advanced voie directe. This is best illustrated on the basis of the ICC Case No 3540.294 The facts of the case, as far as they have been published, have been described above. In summary, a French and a Yugoslav party, who were to realise a project in Russia, fell out. The French party’s claim was opposed by a counterclaim on behalf of the Russian party, and the French party defended itself against the counterclaim by raising a set-off defence. At issue was, first and foremost, by which law the set-off defence was governed, and the question was solved by applying ‘general and common principles of law’. However, the determination of the content of such general and common principle of law with regard to set-off was more than questionable. The arbitral tribunal did not explain why a general principle of set-off (or: lex mercatoria) should require exactly the four requirements of reciprocity, fungibility, exigibility, and liquidity of the claims. Although the arbitral tribunal stated that it would have recourse to recent case law of arbitral tribunals, in particular those constituted under the auspices of the ICC, it made no reference to any awards in particular.295 The four requirements of reciprocity, fungibility, exigibility, and liquidity of the claims are the same as those established in the ICC Case No 5971. However, they cannot have been taken from the latter, as the ICC Case No 5971 is the more recent award of the two. Interestingly, however, in both ICC cases, the laws of France and former Yugoslavia were involved. These two laws explicitly served as a source for establishing the common core of laws of set-off in the ICC Case No 5971, and they were obviously drawn on for establishing a general principle of set-off in the ICC Case No 3540. Swiss law, at least, which was involved in the ICC Case No 3540 as the law at the place of the arbitration, cannot have served as a source of inspiration, as it does not provide for the requirement of liquidity.296

294 295 296

For the facts of the case see above at 184−85. cf Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919, VII YB Comm Arb (1982) 124, 131. For the requirements of set-off under Swiss law see above at 87−88.

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Thus, the general principle of set-off, as it was established by the tribunal in the ICC Case No 3540, was derived from a comparison of the French and Yugoslav (Austrian)297 law of set-off. The danger of such an approach is that an ‘ad hoc distillation’ of similarities of Franco-Austrian law is taken as a world-wide valid standard for set-off. It is amazing that the two oldest existing civil law codifications should determine the content of a modern a-national rule of set-off. In particular in light of the comparative survey undertaken above,298 it is doubtful whether a distillation of Franco-Austrian law of set-off reflects ‘practical and commercially sensible solutions to the myriad practical and economically significant disputes that [lex mercatoria] spawns’.299 Furthermore, it is dubious that two civil law jurisdictions should be the only sources for an a-national rule of set-off, without taking into account jurisdictions from the common law, let alone other families of law. Finally, it is astonishing the extent to which the four requirements of the Franco-Austrian comparison were taken for granted, without at least a rudimentary check of their content. Thus, legal practice draws a picture which differs from the theoretical ideal. In order to provide for the practicability and predictability which the theoretical concept of a uniform rule promises, a thorough comparative analysis on a wide base is needed. So far, criticism concerning the question of the requirements of a set-off has been voiced. The set-off requirements are actually the only question which the published award in ICC Case No 3540 addresses. Operation of set-off was dealt with only briefly. In this regard, for reasons that are not revealed, the arbitral tribunal chose to rely on Swiss and French law, leaving aside Yugoslav law. Russian law, which was also involved in the case since Russia was the place where the contract was to be performed, was not considered at all, neither for the question of set-off requirements nor for the question of its operation. Instead, the arbitral tribunal compared Swiss and French law and concluded that set-off occurred world-wide under different, though related conditions. Again, the comparison of two laws should produce a universal picture of how set-off operates. The application of the operation ‘rule’ to the facts of the case was dubious. The arbitral tribunal held that the claimant had asserted set-off in the arbitration proceedings and did not deal with the question any further.300 However, according to the facts of the published award, the claimant obviously relied on set-off only impliedly. In the first line, it brought the defence of non-performance of the

297

For the equalization of former Yugoslav and Austrian law of set-off see above at 189. Above, Chapter 2. Fortier, L Yves, ‘The New, New Lex Mercatoria, or, Back To The Future’ 17 Arbitration International (2001) 121 (127). 300 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919, VII YB Comm Arb (1982) 124, 131 et seq. 298 299

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contract (exceptio non adimpleti contractus).301 It would have been important to discuss whether such ‘hidden assertion’ was indeed apt to set the mechanism of set-off in motion. As to the effect of set-off, ICC Case No 3540 merely stated that ‘set-off will retrospectively apply from the day on which the two claims existed at the same time’.302 The conclusion is not based on any theoretical legal basis but is made as a mere pronouncement. g

Summary

The advanced voie directe is, in theory, preferable to the other methods of set-off law determination. It avoids the problems caused by traditional choice-of-law approaches by a direct application of substantive law rules. Thereby, the uncertainties connected with the application of the various domestic conflicts rules are evaded. The advanced voie directe theory is also preferable to the tronc commun method: the rules are not minted anew in every case. This provides not only for a higher degree of predictability, but also mitigates labour and costs. However, the above case analysis reveals that arbitration practice has not quite lived up to the advantages which are theoretically inherent in the advanced voie directe approach. The problem thus lies with defining and shaping a uniform rule which really reflects a common understanding of set-off as a legal instrument.303 What is needed is a well-defined outline of set-off rules which draws its legitimacy from an in-depth comparative analysis.

E Fleshing Out a Uniform Set-off Concept i The ‘Creeping’ Codification of General Principles304 In the ICC Case No 3540, the tribunal resorted to ‘the general principles of law’ and found that these required the following four requirements for set-off: ‘similarity and reciprocity of the subjects, performances of an identical nature, […] certain[ty] and liquid[ity], and finally maturity of the claims (ie, not subject to a time limit)’.305 No explanation as to why these should be the elements of a general principle of set-off was provided.306 According to what was previously 301 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919, VII YB Comm Arb (1982) 124, 132 (‘regardless of whether the plea for set-off was only, as it seems, made by Claimant subsidiarily or by way of implication as Claimant brought forward, in the first place the exceptio non adimpleti contractus, based on a different legal qualification; […]’). 302 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919, VII YB Comm Arb (1982) 124, 132. 303 The problem of insufficiently clear rules within transnational law is not unique to set-off, cf Dalhuisen, Transnational Law (above n281) 204. 304 The expression is borrowed from Klaus Peter Berger’s book, The Creeping Codification of the Lex Mercatoria (2010) (above n283). 305 Award in ICC Case No 3540, JDI (Clunet) 1981.913, 919, VII YB Comm Arb (1982) 124, 131. 306 See above at 184−85.

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said, the four requirements listed in the ICC Case No 3540 cannot be the standard of today’s general principles of set-off, as the technique of qualifying them as a general principle is missing almost entirely. In fact, it has been claimed that there can be no such thing as a principle which is ‘the law unanimously adopted by all countries engaged upon international commerce’.307 With the international business community having become significantly bigger, it has been said to be difficult to find principles of trade law, apart from those which are so general as to be useless, which are common to the legal systems of the members of such a community.308 In light of the unfortunate approach in the ICC Case No 3540, one might indeed be inclined to infer that the approach via a uniform rule is hapless and that the only workable option in terms of creating an approximated uniform rule is the ‘ad hoc distillation’ applied in ICC Case No 5971. However, it must be remembered that the ICC Case No 3540 was decided thirty years ago, in 1980. ‘General principles of law’ were a much darker, diffuse matter at that time. The discussion about a ‘new law merchant’, a modern lex mercatoria, had just emerged. Proponents of this modern concept of transnational professional law were occupied with promoting and defending the theoretical foundations of the approach as such.309 The actual content of such lex mercatoria was of secondary importance and did not extend beyond basic generalities. The outlines of lex mercatoria were blurred and made it elusive. Acid-tongues remarks such as the following were often made: The problem is both in its ‘provability, and in finding a comprehensive set of principles within the lex mercatoria. For problems with determining the existence of any purported principle of lex mercatoria, just look at its sources: proactices followed since time immemorial, or at least since the roman ius gentium; ancient cases in dusty tomes; writings of erudite scholars who passed away about the time the steam engine was revolutionizing industry […] As a collection of commercial practices, the content of lex mercatoria has not been discoverable in any single place […] Nor has lex mercatoria been ‘definitive’ in the sense of supplying a comprehensive set of decision-making rules which can be applied to resolve a dispute.310

307

Mustill, Arb Int (1988) (above n285) 86, 92. ibid. 309 See Goldman, Berthold, ‘La lex mercatoria dans les contrats et l’arbitrage internationaux: realité et perspectives’ Journal du Droit International (Clunet) (1979) 475; Goldman, Berthold, ‘The Applicable Law: General Principles of Law—Lex Mercatoria’ in Lew, Julian (ed), Contemporary Problems in International Arbitration (Dordrecht: Martinus Nijhoff, 1987) 113; Schmitthoff, Clive M, ‘The Unification of the Law of International Trade’ 5 Journal of Business Law (1968) 109. 310 Selden, Barton S, ‘Lex Mercatoria in European and US Trade Practice: Time to Take a Closer Look’ 2 Annual Survey of International & Comparative Law (1995) 111, 119 et seq. 308

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The picture has changed since then. Most notably there is the plethora of literature dealing with lex mercatoria.311 For more than two decades, scholars and practitioners have been tackling the topic. Lex mercatoria has been put on the agenda of virtually every arbitration institute. It is also frequently discussed in

311 It is impossible to gain an overview of the literature discussing lex mercatoria. A selection of recent treaties must suffice. cf, eg, Basedow, Jürgen, ‘Lex Mercatoria and the Private International Law of Contracts in Economic Perspective’, in Basedow, Jürgen & Kono, Toshiyuki (eds), An Economic Analysis of Private International Law (Tübingen: Mohr Siebeck, 2006) 57 et seq; Berger, Creeping Codification (2010) (above n283); Berger, Klaus Peter, ‘The Principles of European Contract Law and the Concept of the ‘Creeping Codification’ of Law’, 1 European Review of Private Law (2001) 21; Berman, Harold J and Kaufman, Colin, ‘The Law of International Commercial Transactions (Lex Mercatoria)’ 19 Harvard International Law Journal (1978) 221; Berman, Harold J and Dasser, Felix, ‘The ‘New’ Law Merchant and the ‘Old’: Sources, Contents, and Legitimacy’, in Carbonneau, Thomas, E (ed), Lex Mercatoria and Arbitration, 2nd edn (Huntington, New York: Juris Publishing, 1998) 53 et seq; Blaurock, Uwe, ‘Lex mercatoria und Common Frame of Reference’ Zeitschrift fur Europäisches Privatrecht (2007) 118; Blaurock, Uwe, ‘The Law of Transnational Commerce’, in Ferrari, Franco (ed), The Unification of International Commercial Law (Baden-Baden: Nomos Verlagsgesellschaft, 1998) 9 et seq; Carbonneau, Thomas, E, ‘A Definition of and Perspective Upon the Lex Mercatoria Debate’, in Carbonneau, Thomas, E (ed), Lex Mercatoria and Arbitration, 2nd edn (Huntington, New York: Juris Publishing, 1998) 11 et seq; Cordes, Albrecht, ‘The search for a medieval Lex mercatoria’, in Piergiovanni, Vito (ed), From lex mercatoria to commercial law (Berlin: Duncker & Humblot, 2005) 53; Cranston, Ross, ‘Theorizing Transnational Commercial Law’ 42 Texas International Law Journal (2007); Dasser, Felix, Internationale Schiedsgerichte und Lex Mercatoria (Zurich: Schulthess, 1989); De Ly, Filip, ‘Sources of International Sales Law: An Eclectic Model’ 25 Journal of Law & Commerce (2005–6) 1; De Ly, Filip, International Business Law and Lex Mercatoria (Amsterdam, London etc: North-Holland, 1992); Y Derains, RDAI (1996) (above n21) 514; Duprey, Pierre, ‘Do Arbitral Awards Constitute Precedents? Should Commercial Arbitration be Distinguished in the Regard from Arbitration Based on Investment Treaties?’ in Schlaepfer, Véronique, Pinsolle, Philippe and Degos, Louis (eds), Towards a Uniform International Arbitration Law? (Huntington, New York : Juris Publishing, 2005) 251; Fortier, 17 Arb Int (2001) (above n299) 121; Fountoulakis, VII EJLR (2005) (above n169) 303; Gaillard, JDI (1995) (above n21) 5; Gaillard, Arb Int (2001) (above n132) 59; Fouchard, Gaillard and Goldman (1999) (above n21) para 1443 et seq; Henry, Marc, ‘The Contribution of Arbitral Case Law and National Laws’ in Schlaepfer, Véronique; Pinsolle, Philippe and Degos, Louis (eds), Towards a Uniform International Arbitration Law? (Huntington, New York : Juris Publishing, 2005) 39; Juenger, Friedrich K, ‘The Lex Mercatoria and the Conflict of Laws’ in Carbonneau, Thomas, E (ed) Lex Mercatoria and Arbitration, 2nd edn (Huntington, New York: Juris Publishing, 1998) 265 et seq; Lalive, Rev Arb (1976) (above n37) 155; Lando, Ole, ‘The Principles of European Contract Law and the lex mercatoria’ in Basedow, Jürgen et al (eds) Private Law in the International Arena: Liber Amicorum Kurt Siehr (The Hague: TMC Asser Press, 2000) 391; Lew, Mistelis and Kröll (2003) (above n36) para 18–41 et seq; Mayer, Pierre, ‘Le Principe de Bonne Foi devant les Arbitres du Commerce International’ in Dominicé, Christian etc (et al), Festschrift Pierre Lalive (Basel and Frankfurt am Main: Helbing & Lichtenhahn, 1993) 543; Mertens, Hans-Jochim, ‘Lex Mercatoria: A Self-applying System Beyond National Law?’ in Teubner, Gunther (ed) Global Law Without a State (Aldershot etc: Dartmouth, 1997) 38 et seq; Meyer, Lars, ‘Soft Law for Solid Contracts? A Comparative Analysis of the Value of the UNIDROIT Principles of International Commercial Contracts and the Principles of European Contract Law to the Process of Contract Law Harmonization’ 34 Denver Journal of International Law & Policy (2006) 119; Mistelis, 3 Rev dr unif (2003) (above n278) 631; Mustill, Arb Int (1988) (above n285) 86; Osman, Filali and Salama, Saber, ‘Les méthodes de détermination du droit applicable par l’arbitre: vers un rattachement de la ‘voie directe’ à la méthode conflictuelle’ 21 ASA Bull (2003) 272; Park, William W, ‘Control Mechanisms in the Development of a Modern Lex Mercatoria’ in Carbonneau, Thomas, E (ed) Lex Mercatoria and Arbitration, 2nd edn (Huntington, New York: Juris Publishing, 1998) 143 et seq; Paulsson, Jan, ‘La Lex Mercatoria dans l’Arbitrage CCI’ Revue de l’Arbitrage (1990) 55; Redfern and Hunter (above n30) para 2–59; Romano, Gian Paolo, ‘Le choix des

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supra-national legislative drafting committees and is a recurrent issue in international conferences.312 Perhaps the most important development in practice, however, is the attempt to draft ‘general principles of contract law’ which should serve as a kind of ratio scripta of a supra-national order, as ‘a kind of modern ius commune’.313 These sets of rules, in particular the UNIDROIT Principles and the Principles of European Contract Law (PECL), are based on a ‘functional legal comparison’. The functional approach looks at the commercial realities of a certain legal problem.314 The use of comparative law then allows the detection of similar solutions to this problem in different legal systems. The solutions are then compiled, compared, and evaluated. The evaluation of the different solutions is a creative process. It may lead to a new, progressive solution which is better adapted to the particular needs and circumstances of the legal problem than the solution to be found in a single domestic law. This complicated and laborious analytical process on which the UNIDROIT Principles and the Principles of European Contract Law are based has been highly recognised both in the academic world and in legal practice.315 However, despite their high acclamation in the legal world, a proposal for a uniform European conflicts rule which would allow for the choice of supranational rules such as the UNIDROIT Principles or the PECL was rejected316—the time may not be ripe yet. Principes UNIDROIT par les contractants à l’épreuve des dispositions impératives’ Journal Droit International (Clunet) (2007) 473; Scherer, Matthias, ‘The Recognition of Transnational Substantive Rules by Courts in Arbitral Matters’ in Schlaepfer, Véronique, Pinsolle, Philippe and Degos, Louis (eds) Towards a Uniform International Arbitration Law ? (Huntington, New York: Juris Publishing, 2005) 91; Schmidtchen, Dieter, ‘Lex mercatoria und die Evolution des Rechts’ in: Ott, Claus and Schäfer, Hans-Bernd (eds), Vereinheitlichung und Diversität des Zivilrechts in transnationalen Wirtschaftsräumen (Tübingen: Mohr Siebeck, 2002) 1 et seq; Schroeder, Hans-Patrick, Die lex mercatoria arbitralis (Frankfurt am Main and Munich: QUADIS and Sellier, 2007); Selden, 2 Ann Surv Int’l & Comp L (1995) (above n310) 111; Teubner, Gunther, ‘‘Global Bukowina’: Legal Pluralism in the World Society’ in Teubner, Gunther (ed) Global Law Without a State (Aldershot etc: Dartmouth, 1997) 3 et seq; Wasserstein Fassberg, Celia, ‘The Empirical and Theoretical Underpinnings of the Law Merchant: Lex Mercatoria—Hoist with Its Own Petard?’ 5 Chi J Int’l L (2004) 67; Wijffels, Alain, ‘Business Relations Between Merchants in Sixteenth-Century Belgian Practice-Orientated Civil Law Literature’ in Piergiovanni, Vito (ed), From lex mercatoria to commercial law (Berlin: Duncker & Humblot, 2005) 255. 312 See, eg, the scholarly discussions in: Beyond the State—Rethinking Private Law, Conference from 12th and 13th July 2007 held at the Max Planck Institute for Comparative and International Private Law in Hamburg: Jansen, Nils and Michaels, Ralf (eds), ‘Special Symposium Issue: Beyond the State: Rethinking Private Law’ 56 American Journal of Comparative Law (2008) 527–845. 313 Bonell, Michael Joachim, ‘Das UNIDROIT-Projekt für die Ausarbeitung von Regeln für internationale Handelsverträge’ 56 Rabels Zeitschrift für Ausländisches und Internationales Privatrecht (1992) 274, 275. 314 Kötz, Hein, ‘Rechtsvergleichung und Rechtsdogmatik’ 54 Rabels Zeitschrift für Ausländisches und Internationales Privatrecht (1990) 203, 209 et seq. 315 For multiple references see Kegel and Schurig, IPR (above n81) para 459, 460. 316 See the initial legislative document of the Commission and the Council for an EC-Regulation on the Law Applicable to Contracts (Rome I), COM(2005) 650 final and 2005/0261 (COD), which provided that ‘[t]he parties may also choose as the applicable law the principles and rules of the substantive law of contract recognised internationally or in the Community.’ (art 3(2)), clarifying that

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The discussion about the legitimacy and possible contents of a modern lex mercatoria has not come to an end. There are—and probably always will be—sceptics. However, the existence of codified general principles illustrates that the lack of guidelines has at least been minimised. For fleshing out a uniform concept of set-off, those codified general principles will be taken as the starting point. This requires an overview of the most important comparative sets of rules.

ii Overview of Laws and Sets of Rules Based on Comparative Analysis The UNIDROIT Principles, the PECL, and the European Draft Common Frame of Reference (DCFR) will be discussed first (section a). These three sets of rules being quite similar, it adds to the academic discussion if the Principles of the Academy of European Private Lawyers, the so-called Gandolfi Principles, are also considered (section b). A brief look at the Netherlands Civil Code of 1992 will complete the picture (section c). Its consideration is justified by the fact that the Netherlands Code is based on a comparative analysis of approximately 40 foreign legal systems.317 a UNIDROIT Principles (PICC), Principles of European Contract Law (PECL), and Draft Common Frame of Reference (DCFR) Introduction The UNIDROIT Principles318 ‘set forth general principles for international commercial contracts’,319 but do not possess the quality of formal law that once enacted becomes binding. They define themselves as a contribution to nonlegislative unification of law by compiling, arranging, and structuring international contract law.320 They apply whenever the parties have validly chosen ‘[t]he form of words used would authorise the choice of the UNIDROIT principles, the Principles of European Contract Law or a possible future optional Community instrument, while excluding the lex mercatoria, which is not precise enough, or private codifications not adequately recognised by the international community.’ (Explanatory Memorandum at art 3(2)). See, in contrast, the final version of the EC-Regulation, which restricts the parties’ choice to ‘law’ (art 3(1)), although leaving open the possibility that ‘[s]hould the Community adopt, in an appropriate legal instrument, rules of substantive contract law, including standard terms and conditions, such instrument may provide that the parties may choose to apply those rules’ (consideration (14) of the Regulation). 317 See Volders, Bart, ‘The UNIDROIT Principles of International Commercial Contracts and Dutch Law’ in The UNIDROIT Principles 2004, Their Impact on Contractual Practice, Jurisprudence and Codification, Reports of the ISDC Colloquium (8/9 June 2996), (Zurich: Schulthess, 2007) 135, 139. 318 UNIDROIT Principles of International Commercial Contracts, (2nd edn, 2004). 319 See the Preamble, first line. 320 UNIDROIT, Official Comment to the Preamble, para 4; see also Kronke, Herbert, ‘The UN Sales Convention, the UNIDROIT Contract Principles and the Way Beyond’ 25 Journal of Law and Commerce (2005–6) 451, 458 et seq. (‘[T]he even more felicitous characterisation is pre-statement: the drafters take on the role of an elightened legislature to enact the most functional, modern and internationally acceptable rule.’); Kramer, Ernst A, ‘Funktionen allgemeiner Rechtsgrundsätze—

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them.321 However, they are also applied in practice in the absence of an express reference by the parties. In arbitral proceedings, they have been resorted to when the parties had agreed on ‘general principles of law’,322 the ‘lex mercatoria’,323 ‘international law’,324 ‘natural justice’325 or the like. The UNIDROIT Principles have further been applied as the ‘most appropriate legal source in the circumstances’ or have been referred to as a means of interpreting or supplementing the applicable law.326 The UNIDROIT Principles consider themselves as a restatement of the lex mercatoria,327 although their function appears to exceed that of a mere compilation of existing principles. Rather, they constitute a set of rules which, in its unifying and comparative approach, develops and enhances international commercial contract law. The same is true for the Principles of European Contract Law (PECL), which were created in several stages as a pioneer project towards a European Civil Code.328 The Principles were drawn up by an independent body of experts from each Member State of the European Union under a project supported by the European Commission and many other organisations. The principles are stated in the form of articles with a detailed commentary and illustrations explaining the purpose and operation of each article. Each article also has comparative notes

Versuch einer Strukturierung’ in Koziol, Helmut & Rummel, Peter (eds) Im Dienste der Gerechtigkeit: Festschrift für Franz Bydlinski (Vienna and New York: Springer, 2002) 197, 213; Berger, 1 ERPL (2001) (above n311) 21, 24. 321

Preamble, para 2. Award in ad-hoc-arbitration, San José, Costa Rica, 30 April 2001, ; Award in ad-hoc-arbitration, New York, (date unreported); Award in ICC Case No 8264, April 1997, 10 ICC Bull (1999) 62; Award in ICC Case No 7365, 5 May 1997, Unif L Rev (1999) 796; Award in ad-hoc-arbitration, New York, December 1997, ; Award in ICC Case No 9474, February 1999, 12 ICC Bull (2001) 60; Award in ICC Case No 9797, 28 July 2000, 15 Mealey’s Int’l Arb Rep (2000) A1. 323 Award in International Arbitration Court at the Chamber of Commerce and Industry of the Russian Federation, 5 November 2002, (‘general principles of lex mercatoria’). 324 Preliminary Award in ICC Case No 12111, 6 January 2003, ; Award in ad-hoc-arbitration, Brussels, 19 August 2005, (‘universally acknowledged rules and principles of international law’). 325 Partial Award in ICC Case No 7110, June 1995, . 326 See, eg, Partial Award in SCC Case 117/1999, in: Stockholm Arbitration Report 2002, 59; Award in WIPO Arbitration and Mediation Center, 25 January 2007, ; Award in CIETAC, 2007, ; Award in Internationales Schiedsgericht der Wirtschaftskammer Österreich, SCH-4921, 11 May 2006, ; Award in International Arbitration Court at the Chamber of Commerce and Industry of the Russian Federation, 4 April 2003, ; Award in Camera Arbitrale Nazionale e Internazionale di Milano, 28 November 2002, ; Award in ICC Case No 9994, December 2001, ICC Bull, Spec Suppl (2005) 79. 327 See the preamble, para 3 (‘[…] may be applied when the parties have agreed that their contracts be governed by general principles of law, the lex mercatoria or the like’). 328 Part 1 of the Principles, dealing with performance, non-performance and remedies, was published in 1995. A revised version of Part I was published together with Part II in 1999, and Part III appeared in 2003. 322

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surveying the national laws and other international provisions on the topic. The PECL, like the UNIDROIT Principles, are considered to be part of the lex mercatoria 329 and are intended to be applied as general rules of contract law in the European Community.330 A third body of rules which is of interest here is the Draft Common Frame of Reference (DCFR), which has been published in 2009.331 The DCFR has been prepared by two scientific groups, the Study Group on a European Civil Code centred around Christian von Bar, and the Research Group on EC Private Law (Acquis Group) headed by Hugh Beale. The DCFR is partly based on the PECL, as the Study Group on a European Civil Code is the successor of the PECLcommission.332 The present version consists of model rules, which will be supplemented by comments and notes in the full edition. The draft of the Common Frame of Reference as well as its final version, like the PECL and the UNIDROIT Principles, have no normative force.333 The law of set-off in the UNIDROIT Principles is very similar to that in the PECL, sometimes corresponding to the letter. The rules relating to set-off in the DCFR, again, are virtually334 the same as in the PECL, apart from minor editorial changes and an introductory provision (Article III. 6:101) defining the mechanism of set-off. It is therefore appropriate to discuss the three sets of rules concurrently. Operation of Set-off The UNIDROIT Principles, the PECL, and the DCFR follow the declaration model, according to which the right to set-off is exercised by notice to the other

329 Article 1:101(3)(a) PECL; see also Lando, Liber Amicorum Siehr (above n311) 391, 397; Berger, 1 ERPL (2001) (above n311) 21, 22. 330 Article 1:101(1) PECL. 331 Principles, Definitions and Model Rules of European Private Law, Draft Common Frame of Reference (DCFR), Full Edition, VI Volumes, edited by von Bar and Clive (2009). For overviews on the DCFR see, eg, Schulze, Reiner, ‘The Academic Draft of the CFR and the EC Contract Law’ in Schulze, Reiner (ed) Common Frame of Reference and Existing EC Contract Law (Munich: Sellier, 2008) 3 et seq; Flessner, Axel, ‘Der Gemeinsame Referenzrahmen im Verhältnis zu anderen Regelwerken’ Zeitschrift für Europäisches Privatrecht (2007) 112 et seq; for quite a critical assessment of the DCFR see Eidenmüller, Horst, Faust, Florian, Grigoleit, Hans Christoph, Jansen, Nils, Wagner, Gerhard and Zimmermann, Reinhard, ‘Der Gemeinsame Referenzrahmen für das Europäische Privatrecht’ Juristen-Zeitung (2008) 529, 533 et seq. 332 Eidenmüller, Faust, Grigoleit, Jansen, Wagner and Zimmermann, JZ (2008) (above n331) 529, 532; Bar, Christian von and Beale, Hugh et al (eds), Principles, Definitions and Model Rules of European Private Law, Draft Common Frame of Reference (DCFR), Interim Outline Edition (Munich: Sellier, 2008) Introduction, para 1, 50 et seq. 333 Blaurock, ZEuP (2007) (above n311) 118, 122 et seq; Martiny, Dieter, ‘Common Frame of Reference und Internationales Vertragsrecht’ Zeitschrift für Europäisches Privatrecht (2007) 212 et seq; von Bar and Beale et al (eds) (above n332) Introduction, para 13. 334 A small difference in substance between PECL and DCFR relates to the interplay of assignment and set-off and stems from a slightly different treating of when an assignments becomes effective, below at 201.

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party.335 As is regularly the case in legal systems following the declaration system, notice of set-off may be given by any means appropriate in the circumstances.336 Requirements Similarity Adopting the civilian tradition, the UNIDROIT Principles, the PECL, and the DCFR do not restrict set-off to reciprocal obligations for money. They also allow for a set-off of ‘other performances/obligations’ as long as they are ‘of the same kind’.337 All three bodies of rules explicitly address the (internationally heterogeneously dealt with)338 question whether money debts expressed in different currencies are ‘obligations of the same kind’. They answer it in the affirmative, except where the parties have agreed that the party declaring set-off is to pay exclusively in a specified currency.339 Reciprocity Furthermore, the claims must exist between the same parties. As in the majority of legal systems, assignment of the primary claim does not per se cut off the right of set-off. Both the UNIDROIT Principles and the PECL provide that the debtor can assert set-off against the assignee if the cross-claim existed at the time the notice340 of assignment reached the debtor.341 The respective provision in the DCFR reads slightly differently, though the essence is the same. According to Article III. 5:116(3)(a) DCFR, the debtor may set off against the assignee a cross-claim that it had against the assignor if the cross-claim existed “at the time when the debtor could no longer obtain a discharge by performing to the assignor”. The rather awkward formulation is due to the assignment concept in the DCFR, according to which no notice is required for an assignment to be valid,342 so that the time the assignment becomes effective must be circumscribed. The solution found in the three bodies of law is in accord with the principle that the debtor’s situation should not deteriorate as a result of the assignment.343 Case law on those provisions is rare. The provisions were, however, applied in a

335

Article 8.3 PICC; art 13:104 PECL; art III. 6 :105 DCFR. See Official Comment on Article 8.3 PICC. 337 Article 8.1(1) PICC; art 13:101 PECL; art III. 6 :102 DCFR. 338 See above at 126. 339 Article 8.2 PICC (requiring furthermore that both currencies are freely convertible); art 13:103 PECL (for details see Comment A on Article 13:103); art 6:104 DCFR. 340 According to art 11:307(2)(a) PECL, the notice need not fulfil the requirements of writing and identification of the claim, as provided in art 11:303(1). 341 Article 9.1.13(2) PICC; art 11:307(2)(a) PECL. 342 See art III. 5:104(2) DCFR. 343 See Official Comment on Article 9.1.13 PICC; see also Kötz, Hein, ‘Rights of Third Parties: Third Party Beneficiaries and Assignment’ in Arthur von Mehren (ed), International Encyclopedia of Comparative Law, vol VII: Contracts in General, chapter 13, (Tübingen: JCB Mohr; The Hague etc: Martinus Nijhoff Publishers, 1992) para 97; Pichonnaz in Vogenauer, Stefan and Kleinheisterkamp, Jan (eds), Commentary on the UNIDROIT Principles of International Commercial Contracts (PICC) (Oxford : University Press, 2009), Article 9.1.13 PICC para 1. 336

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recent award of the Internationales Schiedsgericht der Wirtschaftskammer Österreich.344 In this case, it was held that the debtor had fulfilled its obligation of payment by setting it off against claims it had against the creditor, and that the assignee of the primary claim could not require payment from the debtor since, at the time the debtor exercised its right of set-off, the debtor had not yet been informed of the assignment of the creditor’s claim to the assignee. The verdict was based on Austrian law as well as on ‘internationally accepted principles, as laid down in Articles 9.1.10(1) and 9.1.13(2) of the UNIDROIT Principles of International Commercial Contracts 2004 and Articles 11:303(4) and 10:107(1) of the Principles of European Contract Law’.345 The PECL differ from the UNIDROIT Principles in one respect: Article 11:307(2) of the PECL states that a cross-claim can be set off even if it becomes available to the debtor after notification, if the cross-claim is ‘closely connected with the assigned [primary] claim’.346 The DCFR has followed suit.347 The UNIDROIT Principles do not address the question of whether the cross-claim must be enforceable before notice of assignment has been given, and the Official Comment does not clarify the question either. It must be assumed that, since Article 9.1.13(2) of the UNIDROIT Principles describes ‘the right’ of set-off as being ‘available’ before notice of assignment, the UNIDROIT Principles require enforceability of the cross-claim before notice of the assignment of the primary claim has been made.348 Performability of the Primary Claim, Maturity of the Cross-claim In accordance with the fact that the UNIDROIT Principles, PECL and DCFR have adopted the declaration model as the way in which a set-off is effectuated, they have embraced the view that the set-off effectuates the private enforcement of the cross-claim. Consequently, the party setting off must have the right to demand performance of the cross-claim. Accordingly, the PECL and the DCFR require that the party setting off ‘may demand the other party’s performance’.349 Similarly, the PICC require that the ‘performance [of the cross-claim be] due’.350 Enforceability of the cross-claim requires further that the cross-claim be mature, that is, that the date has arrived where the performance should be fulfilled. Whether the cross-claim is due is a question to be decided under the law applicable to the cross-claim.351 Where the limitation period applicable to the cross-claim has expired, the UNIDROIT Principles allow that set-off is declared until the creditor of the

344 Award in Internationales Schiedsgericht der Wirtschaftskammer Österreich, SCH-4921, 11 May 2006, . 345 ibid. 346 Article 11:307(2) PECL; see also art 18(1) of the UNCITRAL Assignment Convention. 347 Article III. 6:116(3)(b) DCFR. 348 See Pichonnaz in Vogenauer and Kleinheisterkamp (above 343), Article 9.1.13 para 23. 349 Article 13.101(b) PECL; art III. 6:102(b) DCFR. 350 Article 8.1(1)(b) PICC. 351 See Berger, Klaus Peter, ‘Set-off ’ ICC Bull, Spec Supp (2005) 17, 20.

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primary claim and debtor of the cross-claim has asserted the expiration of the limitation period.352 The PECL and the DCFR are stricter on the party who wishes to set off its claim. They provide that the other party may invoke prescription until up to two months after the notification of set-off.353 The rule intends to protect the debtor of the cross-claim who has no reason to invoke prescription prior to receipt of the declaration of set-off and is taken unawares by the other party’s assertion of set-off.354 For the primary claim, it is sufficient if it is capable of being performed.355 Exclusion and Waiver of the Right of Set-off An obvious difference between the UNIDROIT Principles on the one hand and the PECL and DCFR on the other hand is that the latter provide for certain reasons which exclude the right to set-off, whereas the UNIDROIT Principles do not deal with that question. According to Article 13:107 PECL, Article III. 6:108 DCFR, set-off is excluded: (a) where the parties have agreed so; (b) if and to the extent the primary claim is not capable of attachment; (c) and if the primary claim arises from a deliberate wrongful act. Liquidity and Connectivity All three bodies of rules create an interplay of liquidity and connectivity. The solutions in the PECL and DCFR on the one hand and in the UNIDROIT Principles on the other hand are similar, though not identical. All sets of rules state that the cross-claim must, in principle, be ‘ascertained as to its existence or amount’ (UNIDROIT Principles), ‘ascertained as to its existence or value’ (PECL, DCFR).356 The three bodies of rules provide for exceptions from this principle. The PECL and the DCFR forego the liquidity requirement where the cross-claim’s non-liquidated nature does not prejudice the interests of the creditor. It is presumed that the interests of the creditor are not affected where primary claim and cross-claim ‘arise from the same legal relationship’.357 The UNIDROIT Principles are slightly more set-off friendly in that they do not operate with rebuttable presumptions. They state the firm rule that a non-liquidated nature is never an impediment to set-off if the cross-claim arises ‘from the same contract’. Connectivity thus cures a lack of liquidity.358 What is striking is that the UNIDROIT Principles, PECL, and DCFR consider liquidity (and, as a subsidiary element, connectivity) as substantive law elements. Both the primary claim and the cross-claim must be liquidated in order to be

352 353 354 355 356 357 358

Article 10.10 PICC. Article 14:503 PECL; art III. 7:503 DCFR. See Comment on Article 14:503 PECL, at 206. Article 8.1(1) PICC; art 13:101(a), (b) PECL; art III. 6:102(a), (b) DCFR. Article 8.1(1)(b) PICC; art 13:102(1) PECL; art III. 6:103(1) DCFR. Article 13:102(2) PECL; art III. 6:103(2) DCFR. Article 8.1(2) PICC.

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eligible for set-off. In this respect, they resemble the French law of set-off. The other jurisdictions considered here which refer to liquidity have dealt with it in their respective Civil Procedure Acts.359 Effect The UNIDROIT Principles, the PECL, and the DCFR reject the retroactivity model common to virtually all continental European jurisdictions360 and opt for an ex-nunc-effect of set-off. ‘Set-off discharges the obligations, as far as they are coextensive, as from the time of notice.’361 Zimmermann explains the PECL’s departure from the ex-tunc-principle as follows: Much of what is said by the proponents of retroactivity appears to be inspired by an unfounded belief that this notion is intrinsically related to the ‘essence’ of set-off. Historically, we are probably dealing here with an unreflected continuation of a thinking pattern of the ius commune […][,] the heritage of Justinian’s dark pronouncements […].362

The consequence of the ex-nunc-effect is that a possible debtor’s default is not retroactively repealed. Practically speaking, interest on both obligations runs until set-off has been declared. Furthermore, any possible contractual penalty which has become due must be paid, and penalties already paid cannot be claimed back via condictio indebiti.363 b

The Principles of the Gandolfi Group

Another set of rules which should be taken into consideration has been prepared by the Academy of European Private Lawyers, which was found by Guiseppe Gandolfi in 1992. The Academy prepared a preliminary draft of a part of a future European Civil Code, which was published in 2001.364 The Gandolfi Principles have settled set-off in Article 132. Their solution is, to a large extent, a mixture of Italo-French and German-based law of set-off. As regards the operation of set-off, the Gandolfi Principles have adopted the Germanic declaration model and allow for both extra- and intra-judicial assertion of set-off.365 On the other hand, the requirements for set-off resemble those in the French Code Civil. Both debts must be liquidated and enforceable.366 359

Above at 75−76, 94−95. With regard to French law, is not quite correct to speak of the ‘retroactive effect of set-off by law’, since, under the Code Civil, the assertion of set-off is regarded as an assertion of the fact that set-off has taken place when the claims were eligible for set-off—the effect of set-off is, therefore, not retroactive, but commences with the ipso iure-set-off. Nonetheless, the effects of French set-off by law and set-off in the Germanic legal systems are similar, see above, Chapter 2. 361 Article 13:106 PECL art 8.5 PICC and art III 6:107 DCFR read to the same effect. 362 Zimmermann, Reinhard, Comparative Foundations of a European Law of Set-Off and Prescription (Cambridge: University Press, 2002) 40 et seq. 363 ibid, 41 et seq. 364 Gandolfi (ed), Code Européen des Contrats—Avant-projet 3rd edn (Milan, 2004). 365 Article 132(3), first sentence of the Gandolfi Principles. 366 Article 132(2) of the Gandolfi Principles. 360

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The fact that the debts must be reciprocal and refer to money or ‘a quantity of fungible things of the same or quality’ are requirements to be found both in French and Germanic laws of set-off.367 Obstacles to set-off are, inter alia, the fact that one of the debts derives from a tort, or concerns the restitution of things deposited or loaned for use. The first prohibition is comparable to paragraph 395 of the German BGB, whereas the second imitates Article 1293 No 2 of the French Code Civil.368 Article 132(4) further excludes set-off where either claim has previously and with reasonable grounds been contested by the other party. This point is superfluous, as serious contest renders the claim unliquidated and would in any event hinder set-off based on Article 132(2). The Gandolfi Principles differ from other laws of set-off in that the above mentioned obstacles need not be considered by the court ex officio, but only if the party opposing set-off raises the objection ‘within reasonable time’.369 As to the effect of set-off, the Gandolfi Principles have not followed either the German or the French approach. Like the UNIDROIT Principles and the PECL, they provide for an ex-nunc-effect: set-off takes effect from the moment it is communicated to the other party or delivered in court.370 c

The Netherlands NBW

Articles 6:127–141 of the New Netherlands Civil Code 1992 (Nieuw Burgerlijk Wetboek–NBW) have moved away371 from the French law of set-off with its ipso iure-approach and have adopted the declaration model instead.372 Mutuality and similarity of the claims is required,373 though the Code provides for the classic exceptions to the requirement of reciprocity. The guarantor, or the debtor of a primary claim which has been assigned, can still declare set-off against the (original) creditor if certain conditions are met.374 Liquidity is not actually required; however, the judge or arbitrator is granted a certain leeway as to whether it considers a cross-claim where the basis of the latter is ‘not easily’ ascertainable (niet op eenvoudige wijze) and the action would otherwise succeed.375 Connectivity of the claims is not mentioned at all.

367 Article 132(2) speaks of ‘collectable debts’, which, if compared to the French (‘exigible’), German (‘fällig’), Spanish (‘exigibles’), and Italian (‘esigibili’) version is not supposed to mean something different from ‘enforceable’. 368 For details see above Chapter 2. 369 Article 132(3), fourth sentence. See also art 132(4), first sentence, of the German version, where the non-mandatory character of set-off obstacles becomes even clearer: ‘Die Aufrechnung ist nicht statthaft – und gegenüber demjenigen, der sich auf sie beruft, ist die andere Seite berechtigt, dies einzuwenden –, wenn […]’. 370 Article 132(3), third sentence. 371 Volders, Dutch Law (above n317), 135 et seq. 372 Article 6:127(1) NBW. 373 Article 6:127(2) NBW. 374 See Articles 6:130 (assignment), 6:139 (contract of guarantee) NBW. 375 Article 6:136 NBW.

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The effects of a set-off are questionable. Although Article 6:129(1) NBW explicitly states that the set-off is backdated to the date when the right of set-off arose, the retroactive effect is distinctly curtailed in Article 6:129(2) NBW. According to this provision, ‘where exigible interest has already been paid on one or on both claims, the compensation is retroactive no further than to the end of the last term for which interest has been paid’. There remains as a consequence of the retroactive effect, the fact that a default on behalf of the debtor is retroactively repealed and that any contractual penalties that have already been paid can be claimed back. It seems, however, that the NBW in any event assumes that the parties will not lose much time between the date the claims are eligible for set-off and the date set-off is declared. Article 6:134, for example, gives the debtor of the primary claim the right to avert cancellation of the contract by the creditor which would be based on non-performance if the debtor of the primary claim immediately declares set-off. A long postponement of exercising the right of set-off obviously foils the possibility of preventing cancellation of the contract.

iii Comparative Analysis a

Operation of Set-off

The declaration model has established itself as the most common operation modus of set-off. All sets of rules have adopted it, and it is also the solution of the Netherlands Civil Code. That the Gandolfi Principles provide for the further possibility of asserting set-off judicially (Article 132(3)) is an addendum of mere declaratory character. It relates to the Prozessaufrechnung which is known to all jurisdictions having endorsed the declaration model.376 The declaration model implies that set-off is a self-help remedy which has apparently stood the test of time. It also safeguards the basic ideas underlying the right of set-off of equity and efficiency. A requirement that set-off ought to be exercised in judicial proceedings would considerably undermine those principles. Finally, it is for good reason that the ipso iure operation has not been considered. It has been proven to be impractical in daily life. Where it still exists, it has been informally replaced by either a judicial or informal declaration concept. Thus, a uniform rule of set-off in international arbitration should provide for a declaration model as embodied in the ‘codified general principles’ considered here. b

Similarity, Reciprocity, Enforceability of the Claims

The overview shows that the requirements of similar reciprocal claims are internationally undisputed. The UNIDROIT Principles and the PECL/DCFR 376

Above at 66−69, 81−82.

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provide for an explicit rule that money debts expressed in different currencies are considered similar. For set-off on an international level, the possibility to set off monetary claims of differing currencies is vital. It also seems that, at this stage, an explicit rule is necessary, as the laws still differ on that point.377 The principle of reciprocity is broken in the case where the primary claim is assigned from the creditor to a third party (the assignee). For the purpose of protecting the debtor’s interests, the UNIDROIT Principles, the PECL, and the DCFR state the commonly accepted rule that the debtor may set off its crossclaim against the primary claim, even if the holder of the primary claim has changed. Despite the broad recognition of this rule, details among the sets of rules differ. Whereas the PECL and the DCFR allow for set-off with a cross-claim connected to the primary claim even if the cross-claim was not yet enforceable (due) at the time the debtor is informed about the assignment of the primary claim, the UNIDROIT Principles arguably require enforceability of the crossclaim at the time of notice of assignment. The purpose of set-off and its function as a place-holder of real performance militate in favour of the first-mentioned solution, as embodied by the PECL and the DCFR, but also by other international legal instruments.378 If set-off is regarded as an efficient and equitable substitute for performance, it should not be treated differently from the situation where actual performance is required. Where the assignee demands real performance from the debtor, the UNIDROIT Principles provide for the rule that the debtor can invoke any defence that it could assert against the original creditor. This includes defences that become available after the assignment occurred or notification of it is received.379 Although the rule provided for by the UNIDROIT Principles is rather progressive,380 it is clear-cut, avoids references to domestic law (which ought to be made if the requirements for a defence to be utilisable were not uniformed),381 and thus enhances legal unison and predictability on an international level. However, if regular defences can be invoked against the assignee regardless of whether they were enforceable at the time the debtor is notified of the assignment, the same hold true for the defence of set-off. Thus, the debtor should be entitled to defend itself against the assignee’s claim by setting off a cross-claim that it had against the assignor, even if the latter was not yet enforceable at the time the debtor was notified of the assignment. As to the requirements on enforceability of the claims, the solution in the UNIDROIT Principles and the PECL/DCFR harmonises with the declaration

377

Above at 126. See, eg, the UNCITRAL Assignment Convention of 2001, art 18(1). 379 See, eg, art 9.1.13(1) of the UNIDROIT Principles (referring to defences against the assignee’s claim other than set-off; the latter is separately dealt with in para 2 of the same provision). 380 See, eg, French, German, and Swiss law, which do not, in principle, allow for the raising of defences that do not qualify as enforceable against the assignee, art 1690 Code Civil, art 169(1) Swiss CO, para 404 BGB. 381 See, eg, Mazza in Vogenauer and Kleinheisterkamp (eds) (above n343), Article 9.1.13 para 12. 378

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concept. In this respect, the Gandolfi Principles are inconsistent. The requirement that both claims must be enforceable is inconsistent with the solution adopted with regard to the set-off ’s operation. For set-off to be a real self-help remedy, only the cross-claim need be enforceable, whereas the primary claim must merely be capable of being performed. A minor difference between UNIDROIT Principles and PECL/DCFR relates to the admissibility of set-off where the cross-claim is time-barred. The UNIDROIT Principles allow for set-off as long as the debtor of the cross-claim (the creditor of the primary claim) has not asserted prescription. The UNIDROIT Principles allow the debtor of the cross-claim to invoke prescription up to two months after the other party has declared set-off; the invocation of prescription can thus hinder an otherwise proper set-off retrospectively. The solution in the PECL/DCFR is, as far as can be seen, unique. Its ratio is to protect the debtor of the cross-claim who is taken unawares by the exercise of a set-off by the other party. The provision has not been tested in practice yet. Its appropriateness must be doubted, as the debtor of the cross-claim is thereby put in a better position than if it had to actually perform. c Exclusion of Set-off With regard to set-off prohibitions, the solutions vary. The UNIDROIT Principles have not dealt with the question at all. The PECL/DCFR prohibit set-off where the primary claim is not capable of attachment, or where the primary claim arises from a deliberate wrongful act. The Gandolfi Principles exclude set-off where one of the claims derives from a tort, has been contested, or seeks restitution. A well-defined uniform rule of set-off requires that the reasons excluding a right of set-off should be clearly stated. Thus, the ‘no answer’ solution adopted in the UNIDROIT Principles must be rejected. Going on to compare the PECL/ DCFR and the Gandolfi Principles, the solution of the former seems to be more appropriate. Both sets of rules are comparable with regard to prohibiting set-off deriving from a wrongful act. The solution in the PECL/DCFR is however preferable. First, it restricts the exclusion of set-off to deliberately committed torts, which seems the more pragmatic approach. The exclusion is further limited to the situation where the primary claim arises from deliberate tort. This is appropriate, as the debtor should be at liberty whether it sets off with a cross-claim which derives from a wrongful act. With regard to the other reasons of exclusion, the PECL/DCFR are in tune with many domestic laws when prohibing set-off where the primary claim is unseizable. In contrast, the exclusion of set-off in case of a restitutionary claim, as it is prohibited by the Gandolfi Principles, is virtually meaningless in practice, as the requirement of similarity will hardly ever been fulfilled. A last question is whether the reasons for excluding set-off should be considered ex officio or only upon the creditor’s objection. The second option is the

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solution in the Gandolfi Principles. It is not recommended. It throws to great a burden on the creditor who is supposed to know the reasons for exclusion of set-off. d

Liquidity and Connectivity

All sets of rules deal with the criterion of liquidity. However, from here on, solutions differ. The Netherlands Civil Code uses liquidity in the ‘classical’ sense; it is a judicial tool with which an unliquidated cross-claim can be rejected in the present trial. The Gandolfi Principles require liquidity of both the primary and the cross-claim. The UNIDROIT Principles and the PECL/DCFR provide for an interplay of liquidity and connectivity. Under the UNIDROIT Principles, the fact that the claims arise out of the same contract will compensate for the lack of liquidity in any case. For the PECL, that the claims arise out of the same legal relationship constitutes a rebuttable presumption that the other party’s interests will not be prejudiced, thus obliging the judicial authority to consider the cross-claim. Leaving the solution of the Gandolfi Principles aside—it is rather antiquated and only justifiable under the practically meaningless ipso iure-concept—the other solutions need to be discussed. To begin with, the requirement of liquidity of the cross-claim as such is appropriate. The necessity of preventing lengthy and costly proceedings due to the debtor’s invoking of a dubious cross-claim is legitimate. Requiring liquidity of the cross-claim is suited for preventing the protraction of proceedings. The question is whether liquidity fulfils the same function where set-off is declared extra-judicially. The answer to this question is crucial, as requiring liquidity as a matter of substantive law means that a cross-claim must always be liquidated, whether it comes to judicial proceedings or not. Both concepts, the one allowing for set-off even with unliquidated cross-claims and the one requiring an ascertained cross-claim, have stood the test of time.382 Practical considerations do not suggest the superiority of one over the other models. It has, further, been said that procedural economy would call for the admissibility of set-off also where the cross-claim is unliquidated; it would be inefficient ‘to ask the defendant to open a new lawsuit in order to have his (cross-)claim examined by the judge’.383 However, is it really more efficient to open set-off for the most uncertain cross-claim without putting paid to the most abusive delay tactics, even outside judicial proceedings? The actual dilemma is how to prevent the debtor from invoking dubious cross-claims. Uncertainty of a cross-claim as such will not always be nocuous— this is also shown by the fact that an unascertained cross-claim which arises out 382

Above at 126−27. Pichonnaz, Pascal, ‘Set-off compensatio: From diversity to unity. Comments on the Principles of European Contract Law Part three’ in Antoni Vaquer (ed) La tercera parte de los principios de derecho contractual europeo, The principles of European Contract Law Part III (Valencia: Tirant lo Blanch, 2005) 281, 290. 383

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of the same contract as the primary claim does (usually) not hinder a set-off.384 Can the situations in which an unliquidated cross-claim should not hinder set-off be differentiated from situations where set-off with an unliquidated cross-claim has the sole purpose of dilating proceedings? One could argue that such differentiation is impractical because it would require an in-depth examination as to the purpose of bringing in an unliquidated cross-claim. However, can the consequence of such impracticability be that all unliquidated cross-claims are per se regarded as suspicious? Set-off being an equity instrument,385 one should not restrict the right of set-off more than absolutely necessary. The legitimate interest that the debtor does not use an unliquidated cross-claim for dilatory purposes could, for example, be achieved by a rule that would read as follows: (1) The cross-claim with which the debtor seeks to set off must be ascertained as to its existence or value. (2) Except where the parties have agreed otherwise, a claim is unascertained if the other party can show plausible and serious reasons for disputing either the claim as such or its value. (3) The debtor can set off with a cross-claim for damages in the amount that equals reasonable calculation [under the UNIDROIT Principles/ PECL/ in commercial usage]. If a higher amount is claimed as damages, it must be specifically ascertained. (4) Where the primary claim and cross-claim arise out of the same legal relationship, the first party may also set off its obligation against an obligation of the other party which is not ascertained as to its existence or to its amount.

Such formulation makes it clear that a frivolous use of unliquidated cross-claims is not tolerated. It requires, as a principle, an ascertained cross-claim, but it clarifies that only if the other party can show satisfying reasons for disputing the cross-claim will the latter be considered unliquidated. This eliminates ‘per se’-disputing of the cross-claim as a reason to exclude the cross-claim. The most common unascertained cross-claim will be damages. This is why a specific subsection is devoted to them. Damages are usually considered as unascertained as long as their amount has not been assessed judicially (or by a neutral third person or otherwise, depending on the parties’ agreement).386 Such a rule seems more appropriate than the categorical exclusion of set-off with unascertained cross-claims, which is only alleviated where the claims are connected. Finally, connectivity of the claims allows for a set-off despite the cross-claim being unliquidated. The rule would enable the parties of a business relationship to facilitate quick settlements of claims.387 It seems appropriate to regard liquidity and connectivity as substantive law requirements. The need to prevent dilatory tactics by asserting an unliquidated cross-claim is not only a judicial desideratum. Dilatory tactics also interfere with the extra-judicial situation. The idea underlying set-off, namely that the debtor 384 385 386 387

This holds in particular true for English abatement, see above at 111. Above at 10−11, 158−60. Above, Chapter 2. UNIDROIT Principles, Official Comment, Article 8.1, note 7.

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should not be forced to make full performance if it holds a cross-claim against the creditor, is undermined if the debtor misuses this instrument to escape fulfilment of its obligation. Preventing misuse via frivolous cross-claims is not only dictated by procedural efficiency,388 but also—and primarily—by equity considerations. e Effects of Set-off The last point concerns the question of what the best solution is with regard to the effect of a set-off. Jurisdictions are divided into a group providing for retroactive effect and a group opting for an ex-nunc-effect. The sets of rules considered here as well as the the Netherlands Civil Code have opted for non-retroactivity; set-off takes effect from the date set-off is declared. The retroactive effect is usually justified by the argument that only a retroactive effect would safeguard the benefits of set-off as a legal instrument. The time at which the claims were first-time eligible for set-off should be decisive, since, from that date on, it would be unfair to disregard the fact that the primary claim can be countered with a cross-claim.389 The reasons advanced in favour of an ex-nunc effect usually are that set-off is a surrogate for payment. It should therefore be treated like a payment.390 This would not be safeguarded if a retroactive effect were attributed to set-off. A retroactive effect would have the consequence that the creditor of the cross-claim (that is, the party exercising set-off) would benefit from a security: from the moment both claims were eligible for set-off, the cross-claim creditor would be certain to be satisfied. In case of bankruptcy, it would effectively receive payment if the claims became eligible before the primary claim creditor’s bankruptcy. The creditor of the cross-claim would thus be privileged over other creditors of the bankrupt who could not set off. The principle of equality of creditors would thus no longer be protected.391 Another consequence of the retroactive effect would be that the debtor need not pay interest on the cross-claim and that contractual penalties would not become due, based on the idea that the parties have been mutual creditor and debtor since the possibility of set-off existed. Proponents of the ex-nunc effect argue that this unduly favours the debtor who simultaneously is the creditor of a cross-claim over debtors who do not possess any cross-claim. There would be no reason for such privilege.392 The question of whether a set-off should have retroactive or pro-futuro effect must be answered in light of the functions and purposes of set-off. Set-off is an 388 But see, eg, Pichonnaz, Pascal, La compensation: analyse historique et comparative des modes de compenser non conventionnels (Fribourg: éditions universitaires, 2001) para 2103, who, by taking recourse to Roman law, emphasises the merely procedural understanding of liquidity. 389 See above at 204. 390 Pichonnaz, La compensation (above n388) para 2125 et seq. 391 ibid, para 2128 et seq. 392 Dullinger, Silvia, Bürgerliches Recht Band II: Schuldrecht Allgemeiner Teil, 3rd edn (Vienna/New York: Springer, 2008) para 4/41; Pichonnaz, La compensation (above n388) para 2134 et seq.

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instrument of economic efficiency that avoids pricey and laborious back-andforth payments. The parties should be allowed to desist from exchanging identical performances where they have no reasonable interest in receiving actual performance. Moreover, set-off safeguards a security interest by vesting the creditor of a cross-claim with the right to satisfy itself by abdicating real performance of its cross-claim and setting it off against the primary claim instead. Finally, the right of set-off is governed by the principle that it would be inequitable to allow a party to seek fulfilment of its claim by neglecting the fact that, at the same time, it is similarly indebted to the debtor.393 None of these purposes suggests a retroactive effect of set-off. Set-off serves as an alternative to real performance. It is thus adequate to treat the two situations wherever possible in a similar way: if the debtor, who holds no cross-claim, performs its duties under the primary claim late, it will have to bear the consequences of its late performance. That is, it may have to pay interest, it may be exposed to a damages claim, or it may have to bear the risk of loss or damage to the goods involved in the transaction, to mention only the most important consequences of late performance. If the debtor, instead of actually performing, can rely on a crossclaim against the creditor, the attribution of a retroactive effect of set-off would put the debtor in an incomparably more favourable position. The debtor would be dispensed from paying default interest, and it could claim back any damages or penalties paid for delayed performance. Not only that: by backdating the effect of set-off, liabilities are retroactively imposed on the creditor (the debtor of the cross-claim), or its assets are retroeffectively deducted, which makes its financial situation appear in a different light, perhaps to the detriment of its own creditors. If one accepts that set-off is a substitute to fulfilment, the privileges granted to the debtor (the cross-claim creditor) and the disadvantage of the creditor’s business partners caused by the ex-tunc effect of set-off are hard to justify. One doubt remains: the debtor, by invoking set-off, is seeking abbreviated performance of its cross-claim. It could thus be argued that the debtor is a creditor itself who would inversely be entitled to default interest and damages for delayed performance for as long as the other party does not perform. Not granting retroactive effect to set-off would thus mean that the creditor (the debtor of the cross-claim) is privileged over the debtor (the creditor of the cross-claim) in that the first one would be compensated for late performance, whereas the second one would not. By giving retroactive effect to set-off, compensation duties for late performance would be neutralised, since both parties would be treated as having performed at the time the claims were eligible for set-off. However, the fact that a mere ex-nunc effect makes the party relying on set-off liable for the consequences of delay is not an injustice that should be remedied by attributing ex-tunc effect to set-off. The party invoking set-off is availing itself of a defence; instead of claiming performance of its cross-claim, its

393

Above at 10−11, 158−60.

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contribution in the legal dispute is limited to shielding itself from the claimant’s demand. Depending on the circumstances, the role of the party relying on set-off can be considerably less costly and time-consuming. It seems therefore adequate to take into account the ‘aggressive’ and the ‘defending’ roles of the parties and to leave the benefit of compensation for late performance exclusively to the creditor of the primary claim. The creditor of the cross-claim who wants to avoid these consequences has it in its hands to uncouple its claim from the primary claim and independently claim performance of its cross-claim. Hence, it seems appropriate to follow the model of modern supranational sets of rules, which have abandoned the ex-tunc effect of set-off, and assume that set-off becomes effective as of the date of its assertion. f

Results

The features of a uniform rule of set-off should be the following. Set-off is be a self-help instrument; it is exercised through unilateral, informal declaration between the parties. The requirements consist of mutual, similar obligations that are not restricted to money debts but may involve other kinds of obligations. Money debts expressed in foreign currency are regarded as similar obligations. The primary claim must be enforceable; the cross-claim can be merely performable. Set-off is excluded where the primary claim arises out of a deliberate wrongful act or is not seizable, whereby the reasons for excluding set-off must be taken into account ex officio. Where the primary claim has been assigned to a third party, the debtor can, for a certain time, defend itself against availment by the assignee. The debtor can assert set-off with a claim existing against the assignor up to the time the debtor receives notice of the assignment. The set-off defence against the assignee’s claim is safeguarded even if the claim used for exercising set-off was not yet eligible for set-off at the time the debtor (the party who wishes to set-off) was notified of the assignment. A further requirement is that the claims be liquidated, though this prerequisite exists in a moderate form. The creditor of the cross-claim must ascertain the existence and amount of the cross-claim. If it succeeds in doing so, its right to set off will only be overthrown if the other party can show that it has plausible reasons to seriously dispute the cross-claim. Damages are deemed to be ascertained up to the amount equalling reasonable calculation under the applicable law. Thus, the most important category of unliquidated claims can be used for a set-off within reasonable limits. The other party should not be able to deprive the creditor of the unliquidated damages of its right of set-off, as the obstacle built in (the reasonable calculation under the applicable law) is sufficient. Where the primary claim and the cross-claim arise out of the same legal relationship, the first party should be entitled to set off its cross-claim against an obligation of the other party even if its cross-claim is not ascertained as to its existence or to its amount. The linkage of liquidity and connectivity is often to be found in domestic and international legislation. It is justified under equity,

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practicability and efficiency aspects: the debtor of the primary claim should not be forced to fulfil its obligations towards the creditor where also the latter owes an obligation to the debtor. This rationale relates to equity. It is, then, more efficient to deal with a cross-claim, even if unliquidated, which stems from the same contract, than to order the creditor of the cross-claim to initiate new proceedings and have all facts reproduced. This is the efficiency aspect. Practicability, finally, relates to judicial proceedings: it is convenient to have all matters relating to one case adjudicated simultaneously and by the same authority. The effect of a set-off begins with its assertion. Set-off has no retroactive effect. The consequences of the ex-nunc effect are that, if interest is owed, both parties have to pay it until set-off has been declared; any penalties, damages, or other consequences of default that accrue up to that time must be paid. The reasons brought forward by the proponents of an ex-nunc effect are convincing. Set-off allows for an unusual way of extinction of debts. This privilege should not be overstretched. To grant the debtor any further benefits by way of a retroactive effect is neither necessary nor justified. There is no reason to favour the debtor who deliberates itself by way of set-off over the creditor. There is also no reason to grant it privileges which the other debtors do not have.

VI Summary The purpose of this chapter was to develop a uniform approach to determine the law applicable to set-off in international arbitration. An overview showed that there is a plethora of doctrines dealing with the question of the law applicable to set-off. In classic conflict of laws, three theories are dominating the discussion: the lex fori approach, the application of the law governing the primary claim, and the approach to apply the laws of both claims simultaneously (cumulative approach). A number of other approaches also exist which have remained of secondary importance to date. The classic choice-of-law approaches were taken as the starting point for the discussion on the ‘best’ or ‘most appropriate’ way to determine the applicable law for set-off in international arbitration. The appropriateness test was based on a number of criteria which are considered as a common standard for evaluating the quality of the choice-of-law rule. These criteria include, inter alia, the aspects of predictability, practicability as well as ‘general appropriateness criteria’ such as whether the choice-of-law rule safeguards any substantive fairness standards or whether it conceives the nature of the legal issue for which a choice-of-law solution is sought. An analysis of the existing conflicts rules for set-off according to the appropriateness standards just described showed that trying to solve the problem of the applicable law for set-off by way of traditional conflicts rules is but an attempt to cut the Gordian knot.

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However, in international arbitration, choice-of-law questions are not bound to the strict pattern of classic conflict of laws doctrines. There is a greater flexibility. In particular, arbitral tribunals may leave the choice-of-law level aside and directly apply the law. There are several variations to this approach of direct application of law rules. In the context of set-off, the most interesting voie directe approaches are the tronc commun method and the application of a-national law. According to the first approach, the provisions that are common to the laws involved in the case are applied. Due to its compromising character, the tronc commun approach is at first sight an appealing law-determination rule. There are, however, practical deficits. The fact that the applicable rules must first be elaborated in every case may lead to mistakes and oversimplifications. The application of a-national law rules avoids these disadvantages. Nonetheless, the risk of that method is lack of precision. With regard to set-off, these fears are minimised by the existence of relatively clear rules in ‘codified general principles’ such as the UNIDROIT Principles and the Principles of European Contract Law. Their respective provisions reflect a modern understanding of set-off. This is especially shown by the fact that set-off is considered as a self-help remedy and that its effect is non-retroactive. Whether liquidity should be regarded as a substantive law requirement is difficult to answer. However, if the purpose of requiring liquidity is to prevent dilatory tactics, it is reasonable to consider liquidity as a matter of substantive law rules. It might further be desirable to have a more detailed rule with regard to liquidity and damages. Damages are arguably the most important remedy, but they are often unliquidated. An addendum that a cross-claim for damages might be used for a set-off to a reasonable amount might alleviate this harshness.

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4 Conclusions

Set-off is a defence which brings about the extinction of two countervailing debts. Its paramount importance in today’s business life stands in sharp contrast to the antiquated nature of domestic laws of set-off. Nonetheless, it is normal that domestic laws of set-off govern a set-off in a global transaction. A comparative overview shows that modern codifications have been strongly influenced by the Roman law of set-off. This relates, on the one hand, to the fact that French law provides for an automatic operation of set-off, which can be traced back to the much-discussed expression in the Corpus Iuris Civilis that compensatio takes place ipso iure. On the other hand, Roman law is also drawn on when the requirements of set-off, in particular the role of liquidity are discussed. It is striking that Roman law is still frequently referred to in relation with modern discussions of set-off, as if help was sought from the old mother of the civil law in a matter that has obviously not yet been satisfyingly solved. Indeed, as simple as the idea of set-off may be, its theoretical concept as well as its adaption to modern legal practice seem difficult. A comparison of the major European legal systems shows that there are different concepts as to how set-off shall operate. The French ipso iure model is one concept. Other set-off laws require a judicial assertion of set-off, still others are satisfied with an informal unilateral declaration. Within the civil law countries, the requirements of set-off are to a large extent comparable. However, the intricacies are in the detail. ‘Similarity’ of the claims in Swiss law is not the same as ‘similarity’ in German law, as money debts expressed in different currency are considered similar under Swiss, but not under German law. To take another example, all laws provide for certain situations where a set-off is excluded. These exclusions may be governed by similar ideas, but they read differently in reality. For instance, Article 1293 No 1 of the French Code Civil excludes the right of set-off where the primary claim seeks restitution of goods of which the creditor has been unduly deprived. Paragraph 393 of the German BGB is born out of similar considerations—and broadens its scope of application considerably by prohibiting set-off where the primary claim is for restitution for the value of goods of which the creditor has been unduly deprived. Different solutions can be found with regard to the criteria of liquidity and connectivity. Sometimes none of them matters, sometimes one of them, and

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sometimes it is the interplay between liquidity and connectivity which is decisive as to whether a set-off will be heard. As an illustration, liquidity is required for English statutory set-off, whereas connectivity is not. Connectivity is required for English equitable set-off, whereas liquidity is not. Neither connectivity nor liquidity is required in Swiss law. Finally, connectivity can also be a ‘saver’ where liquidity is lacking, for example in Austrian law. Except for Switzerland, in all other laws considered here liquidity seems to cause difficulties. Lacking liquidity can be the brake shoe for a set-off. The basic principle may be similar in the various jurisdictions. Liquidity stands for the requirement that the claims be ascertained or at least ascertainable as to their existence and amount. However, here again, domestic laws have coined individual solutions. The courts have ample discretion. Case law is not overly helpful, as the considerations of why one claim is considered liquidated and the other not are often missing. Efforts in literature to structure the case law have not been overly successful, as each case is different. Guidelines other than very general ones are missing. The diversity of domestic laws of set-off is transmitted to national conflict of laws rules. There exists a great variety of choice-of-law rules with regard to set-off, all or most of them have been coined by the specificities of their substantive law of set-off. Thus, the approach of applying the law of the primary claim to a set-off reflects the German idea of set-off as a privilege. Accordingly, the creditor against whom set-off is asserted is particularly worthy of protection. The cumulative approach, again, has won favour in France. To apply the laws of both claims complies with the French understanding of set-off as an automatism, where set-off takes place without any further action by the parties. The lex fori, which is still adhered to in England, mirrors the concept of statutory set-off as a procedural device which must be subjected to the law of the forum according to the maxim of ‘forum regit processum’. The distinct national character of the various choice-of-law rules renders them inapt for the global playground. It is not by chance that with respect to set-off, classic conflicts rules have been described as a mere attempt to cut the Gordian knot. Choice-of-law questions in international commercial arbitration are not bound to the same strict pattern of classic choice-of-law rules. The arbitral tribunals are granted greater flexibility in their choice of how to determine the applicable law. In relation to set-off, two methods lend themselves as appropriate lawdetermination rules. The first is the so-called tronc commun approach, where the common core of the laws involved in the dispute is applied and the remaining questions are governed by general principles common to both laws. This solution, though tempting in its compromising character, is impracticable. Not only is the investigation of all laws at hand costly and cumbersome; the tronc commun method is also error-prone, as the distillation of common provisions and

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principles is a demanding task which, if taken seriously, requires thorough knowledge of the respective jurisdictions. Much better suited is the application of an a-national, uniform rule of set-off. There are several advantages of this approach. (a) It is a rule that avoids the application of domestic law, which, with respect to set-off, is not recommendable. (b) It avoids the disadvantages of the tronc commun approach, where the minting of the law at every occasion may lessen predictability and practicability of the approach. Furthermore, de-nationalised law rules are assumed to be more suited to govern a dispute in an international commercial environment than domestic laws, as they stood the test of selection and have been selected as high-quality rules of law. With regard to set-off, the assumption that a-national rules of law are arguably the better choice than domestic laws of set-off can be confirmed. ‘Codified general principles’ such as the UNIDROIT Principles and the Principles of European Contract Law provide for a well-defined concept of set-off which may serve the needs of global players. Their respective provisions reflect a modern understanding of set-off. This is especially shown by the fact that set-off is considered as a self-help remedy and that its effect is non-retroactive. Whether liquidity should be regarded as a substantive law requirement is difficult to answer. However, if the purpose of requiring liquidity is to prevent dilatory tactics, it is reasonable to consider liquidity as a matter of substantive law rules. It might further be desirable to have a more detailed rule with regard to liquidity and damages. Damages are arguably the most important remedy, but they are often unliquidated. An addendum that a cross-claim for damages might be used for a set-off to a reasonable amount might alleviate this harshness. Thus, in international arbitration, the variety and complexity of domestic laws of set-off and choice-of-law rules can be evaded by resorting to a uniform rule of set-off which has been designed for cases of that dimension.

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The book deals with the practically important legal instrument of set-off in an international context. At the same time, the book is a contribution to the general discussion of the extent to which the diversity and variance of domestic laws can live up to the needs of modern economic life. The first chapter of the book, which is preceded by a brief introduction, provides the basic information regarding set-off and deals with questions such as definition, significance, and functions of set-off. The second chapter provides for a thorough comparative analysis of selected domestic laws of set-off. It is shown that the differences between the various legal systems are remarkable, not only in concept but also in their application in practice. The consequences of this variety of domestic laws of set-off are shown in the third chapter of the book. It is illustrated how traditional choice-of-law methods which are used to determine the law applicable to an international set-off are coined by domestic set-off concepts and fail to provide for reasonable and adequate solutions. Instead, the application of a-national, uniform rules of set-off are suggested, as they are best suited to meet the needs and specificities of modern international commercial law. The conclusions drawn from the analysis of the various law-determination methods are traced in Chapter 4 of the book.

I. The introduction emphasises the importance of set-off as a legal instrument to defend oneself against claims raised by another party. It is pointed out that there is a disharmony between the pluralities of domestic laws of set-off on the one hand and the significance of set-off in international transactions on the other hand. In particular, the plurality of set-off concepts is in stark contrast to international commercial arbitration, which is the most common way of dispute settlement in business matters these days. It is outlined that the variety of set-off laws leads to a series of intricate choice-of-law questions and that an extensive number of domestic laws may become relevant in order to determine the operation, requirements, and effects of a single set-off. The book consecrates

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itself to the task of finding a solution to this which is both satisfying from an academic perspective and reasonable from a practical viewpoint and which overcomes the difficulties caused by the variety of domestic laws of set-off.

II. The first chapter of the book deals with the key aspects of set-off. It is shown that a definition which goes beyond the mere technical aspect of a mutual extinction of countervailing and similar debts is difficult in view of the variety of set-off concepts existing in the various laws. The functions of set-off are discussed next, three of which are of particular importance. First, set-off ensures efficiency and economy by avoiding cumbersome to-and-fro payments. Second, set-off embodies equity considerations, not only by preventing the creditor from recovering all that is owed to it if, at the same time, the debtor holds a claim against it, but also by leading to a fairer allocation of the insolvency risk. Third, set-off provides security, since the parties can liberate themselves by way of set-off and thus avoid the risks inherent in recovering their claim. The book then illustrates the modern use of set-off and emphasises the importance of unilateral set-off, which, unlike a contractual set-off agreement, is a defence granted by the law and can be exercised against the other party’s will. Jurisdictional problems raised by an international set-off are outlined, and it is shown that the majority of these problems have been settled to a large extent. Accordingly, the focus of the study lies on the law of set-off which is to be applied in an international case. The first chapter closes with a clarification of terminological issues.

III. The second chapter of the book provides for a comprehensive comparative overview of selected domestic laws of set-off each of which represents a particular set-off concept. The survey is followed by a thorough analysis in which the various set-off systems are discussed and assessed. The chapter begins with an overview of the Roman law of set-off, which not only helps understanding modern set-off concepts of the civil law but also serves as an illustration of the development of set-off as a legal instrument. It is shown that the historical development goes from an initial forbiddance of set-off to piecemeal admissibility. Furthermore, it is illustrated that, over the centuries, set-off developed from a strictly procedural device which was to be asserted in court to a more ‘materialised’ instrument. It is also shown that the question of whether the claim with which the debtor wished to set off (the cross-claim) was liquidated or not has

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been of paramount importance since Roman times. These observations are taken as the starting point for the analysis of modern laws of set-off. In order to make the various set-off laws comparable, a trichotomy of questions is adapted, which differentiates between operation, requirements and effects of set-off. The comparative overview of modern set-off laws starts with French law as the model and precursor of all Romanic laws. After a brief historical introduction, which illustrates the legal situation concerning set-off in pre-codified French law, the book focuses on ‘legal set-off ’, which is the set-off mechanism settled in the Code Civil. It is shown that thick layers of case law have brought significant alterations to the original concept. Thus, although Article 1290 of the Code Civil states the rule that set-off occurs automatically as soon as two countervailing similar debts face each other (thereby reflecting an early nineteenth century understanding of the Roman formula ‘ipso iure compensatur’), practice has turned the ipso iure-mechanism virtually meaningless; French courts will always require that the intention to set off be declared in judicial proceedings. Case law has changed the wording of the Code Civil also with regard to the requirements of set-off. For instance, the Code Civil does not require connectivity of the claims, nor does it refer to connectivity in any other respect. In practice, however, case law has used connectivity in order to save a set-off where one or several of the set-off requirements were lacking. It has occasionally allowed set-off where there would actually have been an obstacle to it (Article 1293, 1298 CC) or where the claims were not liquidated or not exigible. It is further shown that liquidity of the claims, as it is required in the Code Civil, causes difficulties in its application. So far, case law has not been able to clearly define the degree of ascertainment or the point in time at which the claims must be liquidated. The overview of Romanic laws of set-off also encompasses a brief outline of set-off by agreement (compensation conventionelle) and counterclaim (compensation judiciaire) as well as references to other Romanic laws, which are similar to the French concept. The book then focuses on Germanic laws of set-off. It is explained that a verbatim comparison of the German and the Swiss law of set-off might suggest extensive similarity. Both provide for set-off as a self-help remedy: set-off is exercised by way of a unilateral, informal declaration. Also the requirements of set-off read alike. In particular, both the BGB and the Swiss Code of Obligations require reciprocity and similarity of the claims, though no liquidity or connectivity. Finally, both codes provide for retroactivity of set-off. At the same time, it is pointed out that one would be ill advised to conclude that German and Swiss law of set-off are virtually the same. Through the back door of procedural law, liquidity and connectivity are brought into play in Germany, whereas in Switzerland, an early decision of the Swiss Federal Tribunal has made it clear that procedural law cannot impose liquidity or connectivity on set-off. But also where the wording of the German and the Swiss Code reads similarly, the legal situation may differ. ‘Similarity’, ‘reciprocity’, ‘retroactivity’ are interpreted differently in German, Swiss law respectively.

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The survey on Germanic laws continues with Austrian law. The wording of the respective provisions in the ABGB does not reflect to a great extent the law of set-off as it is applied today. To give just one example, set-off operates by way of declaration, against the clear wording in paragraph 1438 ABGB. Another illustration is the requirement in paragraph 1438 ABGB that the claims be ‘right’ (richtig); it is disputed whether ‘richtig’ stands for ‘enforceability of claims’ or for ‘liquidated claims’. The overview of Germanic laws of set-off closes with a brief references to other representatives of the Germanic laws of set-off, to set-off agreements and counterclaims. The English law of set-off is addressed next, which differentiates between three forms of set-off. It is pointed out that statutory set-off operates as a procedural instrument which must be asserted in judicial proceedings, but that there are exceptions to this rule. It is further shown that there are doubts as to when and how a claim becomes liquidated or whether the cross-claim must have matured prior to the initiation of judicial proceedings. Further uncertainties concern the time at which the statutory set-off becomes effective, under what circumstances the right of statutory set-off will be excluded, and in which cases connectivity of the claims may ‘save’ the right of set-off. Abatement, as a second category of English set-off, applies under very narrow conditions. It can only occur in relation to contracts for the sale of goods or work and labour and merely entitles the buyer or orderer to set off its damage suffered as a consequence of the non-performance of the seller or entrepreneur, respectively. It is then shown that the last form of English set-off, the so-called equitable set-off, operates as a self-help remedy in practice, but that its legal construction is tricky. Furthermore, relief will only be provided if the party invoking set-off can show some equitable ground for being protected from its adversary’s demand. If, in the circumstances, it would be unjust for a set-off to take place, an equitable set-off may be denied notwithstanding the fact that the claims are otherwise closely connected. The overview on Anglo-Saxon law then addresses the relevance of court rules with regard to set-off. It is pointed out that there have been misunderstandings in Australian case law. The fact that civil procedure legislations contain only a rule-making power with respect to matters of practice and procedure and could therefore not serve as a source of a genuine right of set-off has partially been overseen. Finally, contractual set-off as well as counterclaims are briefly addressed. What follows next is a comparative analysis of the different legal systems depicted so far. It is shown that, in most cases, set-off has become an instrument of substantive law. First and foremost, however, it is illustrated that the pattern of domestic laws of set-off provides for a broad spectrum of complex rules. There are noticeable differences in how set-off operates. The declaration model, according to which set-off is viewed as a self-help remedy which can be exercised by a unilateral extra-judicial declaration, might be prevailing. But English statutory set-off still requires an assertion of set-off in court, and also the ipso iure model has not been completely abandoned. In jurisdictions providing for such an

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automatic set-off, domestic case law may have done away with it. However, foreign courts and arbitral tribunals have read the respective provisions literally. There is thus the danger that the sometimes antiquated niceties of a domestic set-off law are perpetuated as soon as it is applied by a foreign judicial body. It is then shown that considerable differences also exist with regard to the requirements of set-off. Although some requirements, such as reciprocity and similarity of the claims, can be found in each of the set-off laws depicted here, the exact content of those requirements varies and must be sought in the respective domestic provisions. The same holds true with respect to provisions prohibiting set-off. There are national differences, not so much in wording but in applying the rules of exclusion; case law in each jurisdiction has weaved a thicket that is difficult to see through. Thus, set-off becomes by necessity ‘domestic-flavoured’. Enforceability of the claims is another point where the laws vary: judicially operating set-off concepts such as English statutory set-off require the enforceability of both claims. The same applies to French set-off due to the understanding of set-off as an automatism. The laws adhering to the declaration system emphasise the self-help character of set-off and thus require enforceability of the cross-claim only. Even more obvious differences exist in relation to liquidity and connectivity of the claims. In Switzerland, for instance, they do not matter. In France and French-based jurisdictions, liquidity is regarded as a substantive requirement of set-off. Connectivity, again, may be relied on in order to save a set-off defence where one of its requirements is lacking and the set-off defence actually ought to be dismissed. Germany and Austria consider liquidity and connectivity as procedural criteria which ensure that the set-off defence will be heard in the same trial as the primary claim. In English law, statutory set-off requires liquidity of both claims, though no connectivity, whereas equitable set-off requires connectivity, though no liquidity. Finally, it is shown that the effect of set-off also differs in the various laws. In the civil law countries considered in this book, the time at which a set-off takes effect is the time at which the primary claim and the cross-claim first face each other. For the French and French-based laws, this follows from the concept of automatically occurring set-off. For the Germanic jurisdictions, it follows from assuming a retroactive effect of set-off. The question is not quite clearly settled in England. As a rule, statutory set-off takes effect as of the date of judgment, although there are exceptions to this rule. The legal situation is even more unclear with regard to abatement and equitable set-off, where it is usually held that they have no retroactive effect, but where equity has developed mechanisms which safeguard the debtor’s right of set-off before judgment, thus putting the debtor in a position as if set-off had taken effect on the date the right of set-off was exercised. The variety of set-off concepts, their historically grown niceties, and the difficulties in penetrating the layers of case law which cover each of those national laws become an obstacle to set-off in modern international business life.

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IV. Chapter 3 of the book is dedicated to the search for the most appropriate way of determining the law applicable to a set-off in international commercial arbitration. Arbitration rather than ordinary state court proceedings are chosen, which is to be explained by the fact that arbitration is of paramount importance in international commercial dispute settlement. After a brief introduction of the development of law-determination in international arbitration, the various methods of law-determination are shown as they exist in international arbitration today. Among the various approaches are: the application of the substantive law of the place of the arbitration (lex loci arbitri), the application of the conflict of laws rules which the tribunal considers appropriate, and the application of the substantive law which the tribunal considers appropriate. It is shown that there are several sub-categories to the various approaches. For instance, the application of the substantive law which the tribunal considers appropriate may result in the application of a specific domestic law, in the cumulative application of several domestic laws (tronc commun), or in the application of a-national rules of law. The question of law-determination with regard to set-off is addressed next. In order to find an ideal way to determine the law of a set-off in international arbitration, choice-of-law models existing in classic conflict of laws are looked at first. It is shown that there are at least eight different approaches as to how the law applying to an international set-off is determined according to traditional conflicts rules. These approaches are described, and it is shown that specific set-off models have coined specific choice-of-law methods. A comprehensive overview is given of: the approach to apply the lex fori to an international set-off, which is prevailing in England and the United States; the approach to apply the law of the primary claim, which has been adopted in Switzerland and under the EC-Regulation on the Law Applicable to Contracts (Rome I); the approach to cumulatively apply the law of both the primary claim and the cross-claim, which is dominating the discussion in France but regularly finds favour with courts and scholars from other jurisdictions; the application of the law of the claim which existed first; the application of the law of the claim which arose second; the application of the law at the place for performance of the primary claim (lex loci solutionis); and, finally, the application of the more set-off friendly law. In a second step, certain criteria are outlined against which the suitability of a law-determination rule is to be measured. The following criteria are considered relevant: whether the law designating rule respects party autonomy, whether it provides for predictable results, whether it eliminates the possibility of manipulative tactics, whether it is a practicable, not overly complicated rule, whether it is comprehensive, and whether it is appropriate. The last-mentioned criterion is discussed extensively. It is shown that ‘appropriateness of a law-determination rule’ has been controversially discussed in the area of classic choice-of-law.

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Whereas, according to traditional European conflict of laws scholars, ‘appropriateness’ of a choice-of-law rule refers to the spatially best solution (conflicts justice), an American school of thought regards the appropriateness of a lawdetermination rule as referring to the materially best solution (material justice). It is then shown that ‘appropriateness of a law-designating rule’ in international arbitration is used as an open term which is not bound to the rigid traditional European view but rather allows the arbitral tribunal to take into consideration material factors, such as how developed and sophisticated a particular law is and to what extent it is suitable for solving the dispute. Accordingly, ‘appropriateness’ of a law-determination rule in international arbitration may restrict itself to conflicts justice, but it may also aim at material justice. Possible fairness considerations are then discussed with regard to set-off while taking into consideration the various functions of a set-off. The conclusion is drawn that, from the multitude of functions typically attributed to set-off, it is the equity idea which must be leveraged. Accordingly, the law applying to set-off must, as far as possible, do justice to the equity idea on which set-off is based. At the same time, it is pointed out that set-off is a privilege and that it does not necessarily call for the mildest possible law of set-off. Rather, set-off friendliness of a law must be brought in a balance with the other suitability criteria. The above-mentioned classic choice-of-law methods with regard to set-off are then measured against the suitability criteria just described. The traditional conflicts rules are dismissed by showing that each of them fails to meet at least one of the suitability criteria. The lex fori approach, which, in the context of arbitration, is referred to as the lex loci arbitri approach, may be simple and not particularly prone to manipulation tactics, but its results are not always predictable. In particular, it is an outdated choice-of-law rule the legitimacy of which has been doubted both in state court and arbitration proceedings. Under the approach of applying the law of the primary claim (the creditor’s law), the determination of the law depends on the contingency of which party asserts its claim first. This is not an appropriate criterion. It is further shown that the primary claim approach leads neither to practical nor to predictable results and that it is susceptible to tactics. In particular, it does not provide for appropriate solutions. The approach is obviously based on the idea that the creditor should somehow be compensated for being faced with a set-off. However, it is emphasised that the argument that the creditor should be protected in its reliance that set-off can only take place in the circumstances indicated by its own law could only be advanced if it really were an aim to prohibit set-off and that, as the above comparative analysis shows, today’s laws are far from that. Also the cumulative approach is not recommendable, as it only provides for a solution with regard to the requirements of set-off. As concerns the question of how set-off operates and what its effects are, the situation must be solved either by applying the law which is stricter (strict cumulation approach) or by requiring that each claim must comply with the provisions of its own law (mild cumulation approach). Whereas the latter leads to unsustainable ‘limping’ situations, the

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first-mentioned approach is too harsh on the debtor and contradicts the results of the comparative survey, according to which the interests of both parties must be equally balanced. The doctrine to apply the law of the claim which existed first and the doctrine to apply the law of the claim which arose second are subject to the criticism that they are based on a chronology of the claims arising. This is highly fortuitous and certainly not a reliable basis for a uniform choice-of-law rule. Neither is the application of the law at the place where the primary claim was to be fulfilled a suitable rule, as it exclusively focuses on just one of the two claims involved in a set-off. Finally, the proposal to apply the more set-off friendly law is also dismissed. It is pointed out that the theory would only be worth considering if there were a respective strong, indubitable policy. However, a general motivation to always look for a set-off friendly situation could not be read out of the comparative survey. The analysis closes with the statement that classic choice-of-law rules for set-off are an unfortunate attempt to cut the Gordian knot. The search for an appropriate uniform rule of determining the law of set-off in international arbitration continues by testing law-determination rules which have been specifically developed in international arbitration and which go beyond classic choice-of-law solutions. The approach to cumulatively apply all choice-of-law rules involved in the dispute is discussed first and, eventually, dismissed. A better approach seems to be the tronc commun method, where the provisions which are common to all laws are applied and remaining gaps are filled by recourse to general principles or usages prevalent in the countries concerned. The tronc commun method is compared to the approach to apply a-national law, such as the UNIDROIT Principles, the PECL, the lex mercatoria and the like. It is shown that both approaches, the application of the tronc commun and the application of a-national law, have advantages which the other law-determination approaches are lacking. First, by avoiding the detour via conflicts rules, they allow for searching for the qualitatively best rules to solve the dispute at hand. Second, they avoid a ‘nationalisation’ of the dispute, as their solution is truly international. The rules that are applied either via tronc commun or as a-national law derive their international character from a competition of laws. Only those rules which stand the test of appropriateness and suitability for transnational commerce survive and form a coherent set of selected rules that are chosen to govern the dispute. At the same time, it is pointed out that de-nationalisation is also a premise: it is only preferable to the classic choice-of-law doctrines if it leads to the selection of high-quality transnational rules. Whether the tronc commun approach and the application of a-national rules provide for such high-quality rules is examined next. It is shown that the tronc commun method is an ‘ad hoc distillation’ of similarities of the various national laws, ‘ad hoc’ referring to the fact that the similarities are elaborated especially for the case at hand. The law is minted on each occasion. By analysing arbitral awards, it is illustrated that such ad hoc distillation is error-prone and may lead to unpredictable results, as it is

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uncertain what the arbitral tribunal will find to be the common core (or what general principles will be applied where there is no common determinator). The application of a-national law is held to be preferable not only by providing for a higher degree of predictability, but also by mitigating labour and costs when searching for the applicable rules at hand. However, an analysis of awards reveals that arbitral practice has not quite lived up to the advantages which are theoretically inherent in the application of a-national law: a ‘hand-knitted’ sketch of rules was provided in those awards, which claimed to be the general principles of set-off law, but which completely lacked the technique that would have qualified them as such. Thus, the application of a-national law is identified as a law-determination method which is recommendable, but at the same time it is pointed out that a well-defined outline of set-off rules is needed which draws its legitimacy from an in-depth comparative analysis. The task is undertaken to flesh out a uniform concept of set-off which fulfils this premise. In order to do so, the set-off provisions of the UNIDROIT Principles, the PECL, and the Draft Common Frame of Reference (DCFR) are discussed, the latter providing for a set-off concept of striking similarity to that of the PECL. The Principles of the Academy of European Private Lawyers (Gandolfi Principles) are also taken into account, as is the Netherlands Civil Code (NBW), which is based on a comparative analysis of approximately 40 foreign legal systems. The conclusion is reached that a uniform rule of set-off in international arbitration should provide for a declaration model as embodied in all of the sets of rules considered as well as in the NBW. Set-off should be exercised by way of a unilateral, informal declaration. Accordingly, with regard to the set-off requirements, it should suffice that the cross-claim be enforceable, whereas the primary claim ought to be merely capable of being performed. Similarity and reciprocity of the claims are requirements which are undisputed as such. The fact that the UNIDROIT Principles and the PECL/DCFR include a provision clarifying that money debts expressed in different currencies are considered similar is welcomed as a uniform rule, since the domestic laws still differ on that point. As to the reasons for excluding the right of set-off, the solution of the PECL/DCFR is preferred over those of the other sets of rules. A major point of discussion is the role which liquidity and connectivity should play. The following conclusions are drawn: liquidity of the cross-claim is considered as a necessary requirement in international set-off cases. Furthermore, the need to prevent dilatory tactics by asserting an unliquidated cross-claim is considered not only as a judicial desideratum; dilatory tactics could also interfere with an extra-judicial situation. It is also considered necessary to clarify that damages claims, as the most common unascertained cross-claim, should be able to be used for a set-off in the amount that equals reasonable calculation under the applicable law. By providing for such a rule, the most important category of unliquidated claims, practically speaking, could be used for a set-off within reasonable limits. Finally, where the primary claim and the cross-claim are connected, the debtor should be entitled to set off its cross-claim

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against an obligation of the other party even if its cross-claim is not ascertained. The linkage of liquidity and connectivity is known to many domestic laws and can also be found in the sets of rules considered; it is justified under equity, practicability and efficiency aspects. As to the effect of a set-off, the author joins in the modern view reflected in the codified general principles considered here as well as in the NBW and holds that a set-off should take effect as of the time it is exercised.

V. Chapter 4 of the book summarises the conclusions that can be drawn from the discussion of an ‘ideal’ law-determination rule in international commercial arbitration. The book closes with the conclusion that, in international arbitration, the variety and complexity of domestic laws of set-off and choice-of-law rules can be evaded by resorting to a uniform rule of set-off which has been designed for cases of that dimension.

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Bibliography

Zöller, Richard (ed), Zöller Zivilprozessordnung, 28th edn (Cologne: Verlag Dr Otto Schmidt, 2009) Zweigert, Konrad, ‘Zur Armut des internationalen Privatrechts an sozialen Werten’ RabelsZ 37 (1973) 435–52 Zweigert, Konrad and Kötz, Hein, An Introduction to Comparative Law, 3rd edn (Oxford: University Press & Tübingen: Mohr Siebeck, 1998)

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Index a-national rules see denationalised rules Aargau, 80 Academy of European Private Lawyers, 204 Acquis Group, 200 agency, English law of set-off and, 104 Algeria, choice of law, 136n35 amiables compositeurs, 184 Appleton, Charles-Louis, 160 arbitration laws, derogation from, 3 Argentina, 59, 60 ascertained claims see liquidity criterion assignment and set-off: Dutch law, 205 French law, 46, 50–1, 70 German law, 70 international rules, 201–2, 207 Swiss law, 83 uniform set-off concept, 213 Australia, 115–16, 118–20 Austrian law: 1811 codification, 64 Germanic branch of civil law, 62 Roman legacy, 31 Austrian law of set-off: automatic operation, 8, 62, 90–2, 95, 96, 125, 149 choice of law, 171 compensatio, 19–20, 64 connectivity, 127 counterclaims, 99 declarations, 91, 96 different currencies, 92–3, 96 effect, 95, 100 enforceability criterion, 93, 96 exclusion agreements, 93 exclusions, 93 influence on Swiss law, 80 issues, 95–6 judicial discretion, 94 liquidity criterion, 94–5, 96, 100, 127, 189–90 origins, 127, [sb] overview, 90–6 reciprocity criterion, 92 requirements, 92–5 Roman influence, 64, 99 similarity of claims, 92–3, 96, 99–100 terminology, 19–20 automatic operation of set-off: Austrian law, 8, 62, 90–2, 95, 96, 125, 149 choice of law rules and, 169–70, 176

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comparative analysis, 125 French law, 45–7, 49, 61, 62, 91, 96, 124–5, 149, 169, 217 international rules, 206 Italy, 60–1, 125, 149 Roman law, 31–3, 35–6, 37, 42, 43, 44, 221 Romanic systems, 45–7, 59–61 Auvergne, 41 banking law: Roman law, 29–30, 35, 111 set-off agreements, 12–13 Bar, Christian von, 200 Batiffol, Henri, 166 Beale, Hugh, 200 Belgium, 23, 37, 59, 147 Berger, Klaus Peter, 187 Berne, 80 Berne Group, 80 Bobé, Jean, 40 Borchers, Patrick, 155 Bourbon, 41 Brazil, 59 Brussels Convention, 17 Brussels I Regulation, 17 Bucher, Eugen, 87 Calais, 41 Canada, 59, 136 canon law, 42–3, 44, 48 cash-pool mechanisms, 12 certainty see legal certainty Chile, 59 Chitty, Joseph, 115 choice of forum, 163–4 choice of law: appropriate rules, 154–7, 225 better law approach, 156 clauses, 161 closest connection test, 180–1, 186 court proceedings v international arbitration, 136–8 fairness, 154–7, 181 forum shopping, 163–4 hypocrisy, 165 international arbitration see choice of law in international arbitration lex fori, 130, 136, 139–41 practicability, 161–2 manipulating tactics, 163–4

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procedural rules, 168–9 tronc commun see tronc commun doctrine voie directe see voie directe choice of law in international arbitration: appropriate conflict rules, 131–3 criteria, 157 cumulative approach, 133, 137, 180–2 development, 131–2 general PIL principles, 133 rules of seat of arbitration, 132 appropriate substantive law, 134–6 denationalisation, 137–8, 183–94 lex mercatoria, 135–6 several national laws, 135 specific national law, 135 tronc commun, 135, 182–3 voie directe, 134, 137, 152, 155 comparative analysis, 217–18 compared to court proceedings, 136–8 determination, 129–38 lex loci arbitri, 129–30 set-off advanced voie directe, 183–4, 191–4 alternative theory, 151–2, 178–9, 185 appropriateness, 158–60, 164–6, 168–70, 172–3, 176–7, 185–7 assessment of rules, 160–79 avoiding nationalisation of disputes, 186–7 certainty, 153, 156, 163, 164, 167–8, 170, 172, 175–6, 178–9, 191, 193 choice of law clauses and, 161 classic conflict rules, 138–52 comprehensiveness, 154, 164 criteria, 152–60 cumulative approach, 146–50, 174–7, 180–2 denationalisation, 183–94 ECJ, 147–8 England, 140–1 fairness, 158–60, 172–3, 185–6 ICC Case 3540(1980), 184–5, 192–5 ipso jure, 169–70, 176 issues, 4–5, 18–19, 138–9 law of primary claims, 142–6, 167–74 law of prior claims, 150, 177 law of second claims, 150–1, 177–8 lex contractus, 138–9, 161 lex fori (lex loci arbitri), 139–41, 158, 160, 161–7 lex loci solutionis, 151, 158 manipulating tactics, 153, 163–4, 172, 175–6 more set-off-friendly law, 151–2, 178–9, 185 party autonomy, 153 practicability, 154, 162, 164, 167–8, 170, 172, 175, 179, 191

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Rome Convention, 144–6 Rome I Regulation, 144–6 substantive and procedural law, 171–2 suitable criteria, 152–60 Switzerland, 142–4 terminology, 152 tronc commun approach, 182–3, 185–91 uniformity see uniform set-off concept United States, 141–2 voie directe see voie directe clearing agreements, 12 Colombia, 59 comparative analysis: counterclaims, 123–4 declaration mechanisms, 125–6 general principles of law, 197 international set-off rules, 198–206 judicial mechanisms, 126 operation mechanisms, 124–6 requirements, 126–7 retroactive effect, 127 set-off as substantive instrument, 123–4 set-off laws, 123–8 compensatio, terminology, 19–20 condictio indebiti, 65, 78, 79, 89, 204 conflict of laws: choice of forum, 163–4, 166 classic doctrines, 129 equality of legal systems, 165 general principles, 133 governing law see choice of law hypocrisy, 165 jurisdictional issues, 14–17 unilateral set-off, 13–14 connectivity criterion: Austrian law, 127 choice of law and, 171 comparative analysis, 126–7 counterclaims, 123 DCFR, 209 diverse requirement, 217 Dutch law, 205 English law, 107, 110 French law, 54–5, 57, 62 German law, 76–8, 95, 127 Germanic systems, 100 international rules, 203–4, 209–11 PECL, 203–4, 209 Roman law, 24, 34, 55, 126 Swiss law, 87–8, 127 UNIDROIT Principles, 209 contract law: choice of law clauses, 161 general principles, 135–6, 197 lex contractus, 138–9, 161 party autonomy, choice of law, 153 Rome I Regulation, 144–6

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Index 251 Convention on the International Sale of Goods (CISG), 4, 135 Corpus Juris Civilis, 30–6, 39, 42, 43, 55, 64, 65, 99, 216 counter-demands, terminology, 22 counterclaims: Austrian law, 99 comparative analysis, 123–4 connectivity requirement, 123 English law, 118, 121 German law, 98 Germanic systems, 98–9 set-off or, 20–1, 123–4 Swiss law, 99 cross-claims, terminology, 22 cross-demands, terminology, 22 damages: abatement and, 109 compensatio and, 20 contractual damages, 13 liquidity and, 48, 116, 210, 213, 215, 218, 227 DCFR: basis, 200 connectivity criterion, 203–4, 209 drafting, 200 enforceability criterion, 202–3, 207–8 exclusion of set-off, 203, 208 liquidity criterion, 203–4 operation of set-off, 200–1 reciprocity, 201–2, 207 retroactive effect of set-off, 204 set-off rules, 198 similarity of claims, 201 denationalised rules: ad hoc distillation of similarities, 188–91 advanced voie directe, 183–4, 191–4 apppropriateness, 185–7 assessment, 218, 226–7 avoiding nationalisation of disputes, 186–7 ICC Case 3540 (1980), 184–5, 192–5 lex mercatoria, 33 misinterpretation, 190–1 option, 4 oversimplification, 190 set-off, 183–94 Denmark, 17, 97, 131n12, 144–5 Dernburg, Heinrich, 49, 78 Domat, Jean, 48, 49 double payment abrégé, 8 economic efficiency, set-off and, 9–10, 158, 159, 206, 212, 214 effect of set-off: Austrian law, 95, 100 comparative analysis, 127 Dutch law, 206, 211 English law, 108, 117, 127

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French law, 55 Gandolfi principles, 205 German law, 64–5, 73, 78–9 Germanic systems, 117 international rules, 204, 211–13 PECL, 204 Swiss law, 89 UNIDROIT Principles, 204 uniform set-off concept, 214 efficiency see economic efficiency Egypt, conflict rules, 134n23, 182n255 enforceability criterion: Austrian law, 93, 96 DCFR, 202–3, 207–8 English law, 106, 126 French law, 47, 52–3, 73, 75 Gandolfi Principles, 204, 208 German law, 69, 72–4, 79 international rules, 202–3, 207–8 lex mercatoria, 184, 192 PECL, 202–3, 207–8 Swiss law, 85–7, 127 UNIDROIT Principles, 202–3, 207–8 uniform set-off concept, 207–8 English law: choice of law, 130, 132, 136 set-off see English law of set-off specific performance, 104 unfair contract terms, 120 English law of set-off: abatement choice of law, 141 connectivity, 110 defective goods, 109–10 historical development, 109–10 limitation periods and, 111 liquidity criterion, 111 operation, 111, 126 overview, 109–12 practical significance, 111–12 scope, 110 case law, 127 choice of law, 138, 140–1 Civil Procedure Rules, 117–20 contractual set-off, 120–1 counterclaims, 118, 121 equitable set-off choice of law, 141 equity, 115–16 limitation periods, 114 liquidity, 116 money debts, 115 operation, 113–14, 126 overview, 112–17 reciprocity, 114 requirements, 114–16 retroactive effect, 117, 127 same transactions, 114–15

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French law of set-off, 103 independent development, 100–1 procedural mechanism, 124 statutory set-off, 8–9 connectivity, 107 enforceability, 106, 126 exclusion agreements, 107 exclusions, 106–7, 109 foreign currencies, 105 harshness, 109, 111 history, 101–2 insolvency, 107, 109 issues, 108–9 judicial remedy, 102–3, 191 limitation periods, 106 liquidity criterion, 105–6 money debts, 104–5 operation, 102–3, 126 overview, 101–9 procedural instrument, 165 reciprocity, 103–4 requirements, 103–7 retroactive effect, 108 terminology, 102 tortious claims, 107 untransferable claims, 106–7 summary, 121–3 equity, set-off and, 10–11, 158, 159, 160, 206, 210, 214, 225 European Draft Common Frame of Reference see DCFR European Union, choice of set-off law, 147–8 exceptio doli, 28, 32, 35 exceptio non adimpleti contractus, 184, 194 exclusion of set-off: Austrian law, 93 DCFR, 203, 208 English law, 106–7, 109 French law, 53–4, 87, 205, 216 Gandolfi Principles, 205, 208–9 German law, 69, 74–5, 205 international rules, 203, 208–9 PECL, 203, 208 Swiss law, 87 UNIDROIT Principles, 203, 208 uniform set-off concept, 213 forum regit processum, 139, 217 forum shopping, 163–4, 166 French law: choice of law, 130, 134, 161, 182–3 customary law, 39 feudal law, 39 legal influence, 37–8 Revised Civil Code, 38, 58–9 Roman law legacy, 23, 31, 36, 38, 39, 43 set-off see French law of set-off French law of set-off:

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assignment of debts and, 46, 50–1, 70 automatic operation, 8, 36, 45–7, 49, 61, 62, 91, 96, 124–5, 149, 169, 217 canon law, 42–3, 44, 48 choice of law automatic operation and, 169 cumulative approach, 146, 217 law of second claims, 150 Civil Code, 45–58 revised Civil Code, 38, 58–9 comments, 61–2 compensatio, 19, 56 compensatio v counterclaims, 39–42, 56–7 compensation conventionelle, 56, 58 compensation judiciaire, 38, 56–8, 62 compensation légale, 38, 45–56, 58–9 connectivity criterion, 54–5, 57, 62 counterclaims, 56–8 customary law, 39–42, 43, 44, 48, 56 discretion, 54 early written law, 39, 43, 44, 48 effect, 55 enforceability requirement, 47, 52–3, 73, 75 English law, 103 exclusion agreements, 53–4 exclusion of right, 53–4, 87, 205, 216 foreign currencies, 52 historical development, 38–44 influence, 80, 90 insolvency, 52, 55 interest, 55 liquidity criterion, 47–50, 56, 62, 88, 127, 162 non-exclusion requirement, 53–4 reciprocity requirement, 47, 50–1, 56 requirements, 47–55, 204 Roman influence, 40–1, 43, 45, 47, 55, 171 set-off agreements, 56 similarity of claims, 47, 51–2, 56 terminology, 19 unilateral set-off, 56–8 unseizable claims, 53, 75 waiver, 46, 53–4 Fribourg, 79 Gaius’ Institutes, 27, 29–30 Gandolfi, Giuseppe, 204 Gandolfi Principles: effect of set-off, 205 enforceability, 204, 208 exclusion of set-off, 205, 208–9 liquidity criterion, 209 meaning, 198 operation of set-off, 204, 206 overview, 204–5 similarity of claims, 205 tortious claims, 208 general principles of law: conflict rules, 133

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Index 253 contract law, 135–6, 197 international debate, 194–8 set-off rules, 197, 198–206 Geneva, 79 German law: choice of law, 130, 134n23, 136 Civil Code (BGB), Roman influence, 32 set-off see German law of set-off German law of set-off: assignment of debts, 70 choice of law, 217 cumulative approach, 147 law of primary claim, 145–6 substantive and procedural law, 171 comparative summary, 89–90 connectivity criterion, 76–8, 95, 127 counterclaims, 98 declarations in court, 66–9 allegation of fact, 66–7 assertion of right, 67–9 civilian theory, 67–8 model, 204 procedural theory, 67–8 different currencies, 71–2 discretion, 88 enforceability criterion, 69, 72–4 cross-claims only enforceable, 73–4 limitation periods, 72–3, 74, 79 exclusion of right, 69, 74–5, 205 extra-judicial declarations, 66, 73 groups of companies, 70 insolvency, 86 liquidity criterion, 75–6, 77–8, 88, 95, 100, 127, 162 privilege, 217 public authority creditors, 74 reciprocity requirement, 69–70 requirements, 69–78 retroactive effect, 64–5, 73, 78–9 Roman influence, 64, 71, 171 similarity of claims, 69, 70–2, 99–100 tortious claims, 74, 75 unseizable claims, 74–5 Germanic systems see also specific countries counterclaims, 98–9 meaning, 23, 62 overview, 62–100 Sachsenspiegel, 63 set-off 19th century, 64–5 comparisons, 89–90 concept, 9 declaration mechanism, 125 effect, 117 French influence, 90 historical development, 63–5 Roman influence, 63–4, 99

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terminology, 22 set-off agreements, 97–8 set-off choice of law cumulative approach, 146–7 law of primary claim, 142 similarity of claims, 99–100 summary, 99–100 giro, 12 globalisation, 32, 34, 35–6 glossators, 31, 32, 35–6 good faith, judicia bona fidei, 26–7, 28, 29, 32, 34, 35 Goode, Roy, 120 Greece, 23, 62, 97, 131n12 Grisons, 80 Hamburg Rules, 135 Hay, Peter, 155 Hungary, choice of law, 134 ICC Rules, choice of law, 131, 134 India, choice of law, 134n23, 136 insolvency: choice of law and, 177 English law of set-off, 107, 109 equality of creditors, 211 equity, 10–11 French law of set-off, 52, 55 international rules, 211 Roman law of set-off, 29–30, 35, 112 security, 12 set-off and, 1–2, 10–11, 14 Swiss law of set-off, 86 international arbitration: delocalisation, 2, 3–4, 137 denationalisation, 4, 136, 137–8 discretion, 137 governing law see choice of law in international arbitration IBA rules, 3 internationalised rules, 2–4 judicial instrument, 8 set-off jurisdiction issues, 14–17 International Bar Association (IBA), 3 International Center for Dispute Resolution (ICDR), 134 international private law see conflict of laws ipso jure compensatur, 31–3, 35–6, 37, 42, 43, 44, 95, 169–70, 176, 221 Islamic states, 130 Italy: automatic operation of set-off, 60–1, 125, 149 Civil Code, 38 compensatio, 19 French legal influence, 38 Romanic system, 23, 59 terminology, 19

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JOBNAME: Fountoulakis PAGE: 6 SESS: 2 OUTPUT: Tue Dec 7 12:21:25 2010

254

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Japan, 23, 62, 136 judicia bona fidei, 26–7, 28, 29, 32, 34, 35 judicia stricti juris, 28–9 jura novit curia, 122–3 jurisdiction: choice of forum, 163–4, 166 international arbitration and set-off, 14–17 renvoi, 168–9 jus civile, 26 jus commune, 197 jus gentium, 26 Justinian, Corpus Juris Civilis, 30–6, 39, 42, 43, 55, 64, 65, 99, 216 Kegel, Gerhard, 48 Korea, 62 Kuwait, 59, 60 La Marche, 40, 41 Law Commission, 105 Lebanon, 136 Leflar, Robert, 156 legal certainty: choice of law and, 153, 156 choice of set-off law advanced voie directe, 193 alternative theory, 178–9 cumulative approach, 175–6 lex loci arbitri, 163, 164 primary claim approach, 167–8, 170, 172 tronc commun approach, 191 general principle of law, 194–5 lex contractus, 138–9, 161 lex fori, 130 lex loci arbitri: application in international arbitration, 129–30 set-off law, 161–7 lex loci solutionis, 151, 158, 178 lex mercatoria: advanced voie directe, 183–4 bibliography, 196 denationalised law, 33, 135–6, 183 emergence, 195 international debate, 197, 198 micro lex mercatoria, 188 PECL and, 200 scepticism, 195 set-off requirements, 184, 192 similarity of claims, 184, 192 UNIDROIT Principles and, 199 Libya, 130n7 limitation periods: English law, 106, 111, 114 German law of set-off, 72–3, 74, 79 international rules, 202–3, 208 Swiss law of set-off, 86 liquidity criterion:

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Austrian law, 94–5, 96, 100, 127, 189–90 choice of law and, 171, 172 comparative analysis, 126–7, 217, 218 damages, 48, 116, 210, 213, 215, 218, 227 diversity, 216–17 Dutch law, 205 English law, 105–6, 111, 116 French law, 47–50, 56, 88, 127, 162 Gandolfi Principles, 204 general principle, 194–5 German law, 75–6, 77–8, 88, 95, 100, 162 Germanic systems, 100 Greek law, 97 international rules, 203–4, 209–11 lex mercatoria, 184, 192 nature, 218 Roman law, 23–4, 34, 62 Romanic systems, 61 Scandinavian countries, 97 Swiss law, 87–8 UNIDROIT Principles, 209 uniform set-off concept, 213 London Court of International Arbitration (LCIA), 134 Lorris, 39–40, 41 Louisiana, 59, 61 Loysel, Antoine, 40 Lucerne, 80 Luxembourg, 23, 37, 59 mancipatio, 24n8 Mann, F.A., 132 Meaux, 40 Meleun, 41 Mexico, 59 Montargis, 39–40, 41 Montfort, 41 Mustill, Michael, 188 naturales obligationes, 52–3 Netherlands: assignment of debts, 205 choice of law, 134, 147, 161 legal influences, 37–8 New Civil Code, 38, 198, 205–6 non-retroactivity of set-off, 206, 211 set-off rules, 205–6 netting, 12 Neuchâtel, 79 New York Convention, 3 New Zealand, 118n572, 131n12 Norway, 97 operation of set-off see also automatic operation of set-off Austrian law, 8, 62, 90–2, 96, 125, 149 Dutch law, 205, 206 English law, 102–3, 111, 126. 113–14

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JOBNAME: Fountoulakis PAGE: 7 SESS: 2 OUTPUT: Tue Dec 7 12:21:25 2010

Index 255 French law, 8, 36, 45–7, 49, 61, 62, 91, 96, 124–5, 149, 169, 217 Gandolfi Principles, 204, 206 German law, 66–9, 73, 204 Germanic systems, 125 international rules, 206 Italy, 60–1, 125, 149 mechanism, 1–2 Roman law, 26–34 Romanic systems, 45–7, 59–61 UNIDROIT Principles, 200–1 uniform concept, 206 Panama, 59, 60 Pandectists, 31–2, 34, 75, 78, 100 Paris customary law, 41 party autonomy, 153 Philippines, 59 PICC see UNIDROIT Principles pledges, 83, 159 Portugal, 59 praetor peregrinus, 26 praetor urbanus, 26 predictability see legal certainty Principles of European Contract Law (PECL): basis, 197 connectivity criterion, 203–4, 209 denationalised law, 183 effect of set-off, 204 enforceability criterion, 202–3, 207–8 exclusion of set-off, 203, 208 form, 199–200 lex mercatoria and, 200 liquidity criterion, 203–4 origins, 199 reciprocity, 201–2, 207 similarity of claims, 201 private international law see conflict of laws Prussia, 64 Quebec, 59 qui eligit judicem eligit jus, 129–30 reciprocity: Austrian law, 92 comparative analysis, 126 DCFR, 201–2, 207 Dutch law, 205 English law of set-off, 103–4, 114 French law of set-off, 47, 50–1, 56 general principle of law, 194–5 German law of set-off, 69–70 Germanic systems, 99 international rules, 207 lex mercatoria, 184, 192 PECL, 201–2, 207 Swiss law, 82–3 UNIDROIT Principles, 201–2, 207

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Reims, 41 renvoi, 168–9 requirements of set-off: Austrian law, 92–5 comparative analysis, 126–7 English law, 103–7, 114–16 French law, 47–55, 56, 73, 75, 204 German law, 69–78 lex mercatoria, 184, 192 Roman law, 34 Swiss law, 82–8 uniform set-off concept, 213 Research Group on EC Private Law, 200 retention rights, 9, 11–12, 159 Roman law: Corpus Juris Civilis, 30–6, 39, 42, 43, 55, 64, 65, 99, 216 formalism, 24–6 Gaius’ Institutes, 27, 29–30 glossators, 31, 32, 35–6 jus civile, 26 jus gentium, 26, 195 legacy, 23, 43 legis-actiones-system, 25 obligations, 23, 25 per-formulas-procedure, 25–6 post-classical judicial system, 30 praetor peregrinus, 26 praetor urbanus, 26 rediscovery, 39 Romanic systems and, 38–9 Roman law of set-off: allegation of fact or claim submission, 33–4, 36 banking, 29–30, 35, 111 comments, 35–7 compensatio, 26–37 connectivity criterion, 24, 34, 55, 126 customary law, 49 development, 24–6 equity, 10 exceptio doli, 28, 32, 35 influence, 34, 216 Austria, 64, 99 French law, 40–1, 45, 47, 55, 171 German law, 71, 171 Germanic systems, 63–4, 99 insolvency, 29–30, 35, 112 ipso jure compensatur, 31–3, 35–6, 37, 42, 43, 44, 221 judicia bona fidei, 26–7, 28, 29, 32, 34, 35 judicia stricti juris, 28–9 judicial discretion, 27, 29, 34, 36, 37, 126 Justinian, 30–6, 42, 55 liquidity criterion, 23–4, 34, 36, 62, 126 operational stages, 26–34 overview, 23–37 pre-Classic law, 24–30, 35–6

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JOBNAME: Fountoulakis PAGE: 8 SESS: 2 OUTPUT: Tue Dec 7 12:21:25 2010

256

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procedural device, 35–6, 124 similarity of claims, 34, 52 special cases, 29–30, 35 Romanic systems see also specific countries automatic operation of set-off, 45–7, 59–61 liquidated claims, 61 meaning, 23 overview, 37–62 Roman law and, 38–9 Rome Convention (1980), 133, 144–6, 148, 181 Rome I Regulation (2008), 144–6, 148 Sachsenspiegel, 63 Savigny, Friedrich Carl von, 154n135, 157 Saxony, 63n226 Schaffhausen, 80 Scoles, Eugene, 155 Scotland, 19–20 security, set-off and, 11–12, 158–9, 212 set-off see also specific countries agreements see set-off agreements compensatio or, 19–20 conflict of laws see conflict of laws definition, 1, 7–9 economic efficiency, 9–10, 158, 159, 206, 212, 214 equity, 10–11, 158, 159, 160, 206, 210, 214, 225 exclusions see exclusion of set-off functions, 9–14, 158–9 judicial instrument, 14 operation see operation of set-off practicability, 158, 214 privilege, 159–60, 173, 214 security, 11–12, 158–9, 212 terminology, 19–22 uniformity see uniform set-off concept unilateral set-off, 13–14 set-off agreements: Austria, 93 banking law, 12–13 English law, 120–1 French law, 56 Germanic systems, 97–8 Shari’a law, 130 short-cut payment, 8 similarity of claims: Austrian law, 92–3, 96, 99–100 DCFR, 201 diversity of requirement, 216 Dutch law, 205 English law of set-off, 104–5 foreign currencies, 213 French law, 47, 51–2, 56 Gandolfi Principles, 205 German law, 69, 70–2, 99–100

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Germanic systems, 99–100 international rules, 201, 207 lex mercatoria, 184, 192 PECL, 201 Roman law, 34, 52 Swiss law, 84–5 UNIDROIT Principles, 201 uniform set-off concept, 213 Solothurn, 80 Spain, 19, 23, 37, 59, 60, 61 Study Group on a European Civil Code, 200 Sweden, 97 Swiss law: Berne Group, 80 choice of law, 134, 181 Code Civil Group, 79–80 codification of law, 79–80 Germanic branch of civil law, 23, 62 intellectual property, 181 set-off see Swiss law of set-off Swiss law of set-off: actual performance required, 87 assignment of debts, 83 Austrian influence, 80 choice of law, 138 contractual claims, 143 law of primary claim, 142–6 lex loci delicti commissi, 144 non-contractual claims, 143–4 principle, 142 tortious claims, 144 unjust enrichment, 144 comparative summary, 89–90 compensatio, 20 connectivity, 87–8, 127 counterclaims, 99 declarations in court, 81–2 different currencies, 84–5 effect of set-off, 89 enforceability criterion, 85–6, 127 exclusion of right, 87 extra-judicial declarations, 81 French influence, 80 historical development, 79–81 insolvency, 86 jurisdictional competence of cross-claims, 16–17 lease agreements, 87 limitation periods, 86 liquidity, 87–8 overview, 79–90 partnerships, 82 pledges, 83 public law obligations, 87 reciprocity, 82–3 requirements, 82–8 similarity of claims, 84–5 terminology, 20

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JOBNAME: Fountoulakis PAGE: 9 SESS: 2 OUTPUT: Tue Dec 7 12:21:25 2010

Index 257 tortious claims, 87, 143, 144 waiver of rights, 87 Symeonides, Symeon, 155 Syria, 130n7 terminology, set-off, 19–22 Thailand, 62 Ticino, 79 torts: choice of forum, 164 English law of set-off and, 107, 109 German law of set-off and, 74, 75 international rules, 208 reciprocity and, 205 Swiss law of set-off, 87, 143, 144 tronc commun doctrine: choice of law doctrine, 135 choice of set-off law ad hoc distillation of similarities, 188–91 appropriateness, 185–7 assessment, 217–18, 226–7 avoiding nationalisation of disputes, 186–7 discussion, 185–91 ICC Case 5971, 182–3, 188–9, 192, 195 misinterpretation, 190–1 oversimplification, 190 international arbitration, 174 Turkey, 62 UNCITRAL Arbitration Rules (1976), 131 UNCITRAL Model Law (1985), 3, 17, 131, 136 UNIDROIT Principles: application, 199 basis, 197 connectivity criterion, 203–4, 209 delocalisation of law, 4 denationalised law, 183 enforceability criterion, 202–3, 207–8 exclusion of set-off, 203, 208 lex mercatoria and, 199 liquidity criterion, 203–4, 209 nature, 198–9 operation of set-off, 200–1 reciprocity, 201–2, 207 retroactive effect, 204 set-off rules, 200–6 similarity of claims, 201 uniform set-off concept:

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assignment of debts, 201–2, 213 comparative analysis, 206–14 connectivity, 209–11 DCFR, 198–206 enforceability, 207–8 exclusion of set-off, 208–9 fleshing out, 180, 194–214 general principles of law, 133, 194–8 international comparative rules, 198–206 liquidity, 209–11 operation of set-off, 206 PECL, 198–206 reciprocity, 206–7 requirements, 194–5 results, 213–14 retroactivity, 211–13 similarity, 213 UNIDROIT Principle, 198–206 unilateral set-off, 13–14 see also torts United Nations Conventions, 4, 135 United States, choice of law, 130, 141–2, 156 universalism, general principles of law, 133, 135–6, 194–8 unjust enrichment, 90, 143, 144 Valais, 79 Vaud, 79 Venezuela, 59 voie directe see also tronc commun doctrine advanced voie directe ad hoc distillation of similarities, 192–3 advantages, 191–2 disadvantages, 192–4 meaning, 183–4 denationalised set-off law, 183–94 advanced voie directe, 183–4, 191–4 apppropriateness, 185–7 avoiding nationalisation of disputes, 186–7 ICC Case No 3540(1980), 184–5, 192–5 international arbitration, 134, 137, 152, 155 washable loans, 12 WIPO, 134 Zimmermann, Reinhard, 24, 46, 204 Zurich, 80

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JOBNAME: Fountoulakis PAGE: 10 SESS: 2 OUTPUT: Tue Dec 7 12:21:25 2010

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