Clayton’s Rule
Introduction:
Appropriation refers to the ‘application’ of payments. The Indian Contract Act, 1872, contains specific rules that govern the appropriation of payments between a debtor and a creditor. When a debtor makes a payment, the creditor must apply it according to these rules. Often, a creditor would be inclined to appropriate a payment towards a debt that is less likely to be recovered easily. However, if neither the debtor nor the creditor specifies how the payment should be applied, the law will step in to appropriate it according to the statutory default rules.
Appropriation of Payments by the Debtor
The Indian Contract Act, 1872, contains provisions governing the appropriation of payments. When a debtor owes several distinct debts to a creditor and makes a payment, the debtor may request that the creditor apply that payment to discharge a specific debt. If the creditor accepts this request, they are bound by this appropriation.
This rule applies only to several distinct debts and not to various components of a single debt or to a debt that has been merged into a decree. The creditor’s agreement to the debtor’s appropriation may be either express or implied. The fundamental principle is that a payment should be applied according to the express will of the payer, not the receiver. If the creditor does not agree to apply the payment as the debtor directs, they must refuse the payment entirely to stand upon the rights given to them by law.
Clayton’s Rule of Appropriation of Payments
In English law, a foundational rule for appropriation was established in the case of Devaynes vs Noble, commonly known as Clayton’s Case. This ruling affirmed that a debtor who owes several distinct debts may request the creditor to appropriate a payment to a particular debt, and if the creditor agrees, they are bound by it.
In the Devaynes vs Noble case, a partner in a banking firm died, and the surviving partners continued to operate the business without any formal restructuring before eventually declaring bankruptcy. Creditors who had accounts with the bank at the time of the partner’s death continued trading with the surviving partners, and their accounts saw various transactions. The court held that continuing to trade with the surviving partners did not discharge the estate of the deceased partner from its liabilities. Judge Grant MR observed that under general mercantile law, a partnership contract is considered both several and joint, a distinction that led courts of equity to treat such joint contracts differently from others.
Conclusion
The rules of appropriation prioritize the debtor’s right to direct a payment to a specific debt. If the debtor does not specify, the law applies default rules, such as Clayton’s “first-in, first-out” principle for running accounts. These rules ensure fairness and prevent creditors from unilaterally applying payments to debts that are hardest to recover.
