In law, a set-off is an equitable defence to the whole or to a portion of a plaintiff's claim. A set-off is the right of a debtor to balance mutual debts with a creditor. In bookkeeping terms, set-offs are also known as reconciliations. To determine a set-off, simply subtract the smaller debt from the larger. Any balance remaining due either of the parties is still owed, but the remainder of the mutual debts has been set off. \n* The legal defense of set-off (above) was originally introduced to prevent the unfair situation whereby a person ("Party A") who owed money to another ("Party B") could be sent to debtors' prison, despite the fact that Party B also owed money to Party A. The law thus allows both parties to defer payment until their respective claims have been heard in court. Upon judgment, both claims are extinguished and replaced by a single net sum owing (e.g. If Party A owes Party B 100 and Party B owes Party A 105, the two sums are set off and replaced with a single obligation of 5 from Party B to Party A). \n* Set-off can also be incorporated by contractual agreement so that, where a party defaults, the mutual amounts owing are automatically set off and extinguished. \n* In certain jurisdictions (including the UK), set-off takes place automatically upon the insolvency of a company. This means that, for each party which is both a creditor and debtor of the insolvent company, mutual debts are set-off against each other, and then either the bankrupt's creditor can claim the balance in the bankruptcy or the trustee in bankruptcy can ask for the balance remaining to be paid, depending on which side owed the most. This has been criticized as an undeclared security interest that violates the principle of pari passu. The alternative, where a creditor has to pay all its debts, but receive only a limited portion of the leftover moneys that other unsecured creditors get, poses the danger of 'knock-on' insolvencies. The right to set off is particularly important when reporting a bank's exposures to regulatory authorities. The situation where a bank has to report that it has lent a large sum to a borrower (and is therefore exposed, because there is a risk that the borrower might default thereby leading to the loss of the bank's or its depositors' money) is thus replaced (where the bank has taken security over shares or securities of the borrower) with an exposure of the money lent minus the value of the security taken.

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