When a creditor is owed a debt by the bankruptcy filer and the bankruptcy filer is owed a debt from the creditor and consequently creating a mutual obligation, the creditor can setoff the mutual debt. This means, instead of the creditor paying their debt to the bankruptcy filer the creditor can setoff (subtract) that amount from the amount owed to them by the bankruptcy filer.
The Right to Setoff Mutual Debts in Minnesota
The right to setoff mutual debts is a common law doctrine based on principles of equity. It was first recognized in American bankruptcy law in the Bankruptcy Act of 1800 and has continued to be recognized in bankruptcy law up to present day.
11 U.S.C. § 553(a) provides that “except as otherwise provided in this section and sections 362 and 363 of this title, this title does not affect any right of a creditor to offset a mutual debt by such creditor to the debtor that arose before the commencement of the case under this title against a claim of such creditor against the debtor that arose before the commencement of the case…” No federal right of setoff exists under the Bankruptcy Code any right of setoff that a creditor possessed prior to the debtor’s filing for bankruptcy is not affected by the bankruptcy code.
Establish a Valid Right to Setoff
To establish a valid right to setoff under section 553, the creditor must prove: (1) a debt owed by the creditor to the debtor which arose prior to the commencement of the bankruptcy case; (2) a claim of the creditor against the debtor which arose prior to the commencement of the bankruptcy case; and (3) the debt and claim must be mutual obligations.
What Is a Mutual Debt in Minnesota?
A mutual debt is defined as two debts: one owed by the creditor to the debtor; and one owed by the debtor to the creditor. The right to a setoff exits if the mutual debt is owing at the time of the filing of the bankruptcy petition. Then the debts may properly be offset.
In cases of tax refunds, if a mutual debt is owed at the time of filing the petition the IRS can offset the “refund” owed to the debtor.
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When mutual debts are owed at the time of filing of the bankruptcy petition, the right to offset exists. Contact the attorneys at LifeBackLaw and see us at www.LifeBackLaw.com.