Yes, the bank can deduct money from your account without authorization under the right of setoff if you owe the bank money. When you have an account with a bank, you will likely apply for a loan or credit card with the same bank. You have built trust with the bank or credit union. Thus, you feel comfortable applying for a loan. When you default on the loan or credit card, the bank can utilize its right of setoff to recover payment for the loan or credit card.
The Right To Deduct Money
"Right of offset" is a term that most people do not understand. However, you should understand this term, especially if you have a bank or credit union account.
The concept of a setoff right is that the bank owes you money, which is held in your bank account, but you also owe the bank money in the form of a loan or credit card debt. Therefore, the bank can deduct the amount you owe from your account. The right of setoff only applies when there is a mutual obligation between the bank and the borrower/depositor. The same financial institution that holds your money is the one that you owe money to on a loan or credit card.
Many banks are not aggressive in using the right of setoff with their clients. However, some credit unions are notorious for enforcing the right of setoff.
The Setoff Clause Explained
A setoff clause is a legally recognized clause that allows the lender to take the borrower's deposits when the borrower defaults on a loan. The setoff clause could also imply a settlement of mutual debts between a creditor and a borrower by offsetting transaction claims. By applying the setoff clause, creditors can collect or recover more money than they would under normal bankruptcy proceedings. Setoff clauses do not just apply to lenders. Manufacturers or sellers of other products can also use them to protect them against buyers' defaults.
How A Setoff Clause Works
A setoff clause gives the lender the right to seize money from the debtor or the loan's guarantor. A settle-off clause is part of the many lending agreements between lenders and borrowers and can be structured in many ways. A lender can choose to include a setoff clause in the loan agreement to ensure that, in the event of default, the lender receives a greater percentage of the money owed than they might receive in a bankruptcy proceeding. If a borrower cannot meet the agreed-upon obligation to the bank, the bank can seize all the assets listed in the clause.
Setoff clauses are mainly common in loan agreements between lenders like banks and credit unions and their borrowers. They can also apply to other types of transactions with default risk. However, the Truth in Lending Act prohibits the setoff clauses from applying to credit card transactions to ensure that consumers do not pay for defective merchandise bought using their cards.
For the lender or bank to exercise its right of setoff clause, it must meet these requirements:
- The account with the funds and the loan in default should both be in your name. Therefore, the situation can be challenging when a joint account is involved.
- The account in debt and the account with funds are from the same lender. However, your bank can access money from other financial institutions if the setoff clause outlines this.
- Your debt is in arrears – the bank cannot remove money from your account without authority if your repayments are current.
- The lender has notified you about their intent to use the offset right to recover your loan arrears.
- The lender has examined your circumstances and whether taking the money from your account will cause you financial hardships. For example, the lender should not take money from your account if your balance is below $1,000.
Examples Of Setoff Clauses
A loan agreement between a bank and a borrower can include a lending setoff clause. The bank holds assets like money in savings, checking, money market accounts, or a certificate of deposit. The borrower agrees that these assets will be available to the lender in case of a loan default. The lender can easily access the assets to cover the loan payments if it holds those assets. However, the clause can also include a right to money or assets in other financial institutions. Even if the assets of other financial institutions are not readily available to the lender, the clause gives the lender the right to seize those assets if the borrower defaults.
A setoff clause could also be part of a supplier agreement between the supplier, like a manufacturer, and the buyer or retailer. Instead of the letter of credit, the clause can be used to say that the bank grants suppliers access to deposit accounts or other assets the buyer holds at the financial institution if the buyer defaults. When a setoff clause is in place, the supplier can access an amount equal to the amount owed in the supplier agreement.
What A Borrower Should Know
A borrower should know that the setoff clause could mean losing or forfeiting more of their assets than they would forfeit in a bankruptcy agreement. A setoff clause mainly benefits the party at risk, the lender. The clause gives the lender legal access to the borrower's assets at the lender's financial institution or any other institution where the borrower has accounts.
The setoff clause will outline if the lender plans to access the money at other financial institutions. Even when the money is not easily accessible to the bank, the setoff clause gives the lender the authority to tap the accounts at other financial institutions. If your loan contract has a setoff clause, the clause will be included in the loan agreement. Therefore, when signing the agreement, you should look for terms like "rights of setoff."
Before you sign the setoff clause, you should understand that it can result in losing assets that you would retain in other debt settlement methods like bankruptcy.
When The Bank Can Exercise Its Setoff Right
Banks include the setoff clause in the agreement you sign when opening a savings account, checking account, or certificate of deposit. The language of this clause can differ from one institution to another. Many do not focus on the terms and conditions when opening bank accounts. They sign the forms without noticing the setoff clause.
Credit unions have more freedom when exercising setoff rights than banks do. For example, a credit union can seize your money and use it to pay your credit card debt, which banks are not allowed to do.
Sometimes, a setoff clause can give the bank or credit union the right to seize money not only from your account but also from a joint account you hold with another person. In a joint account, the financial institution can withdraw the amount owed by any of the joint holders of the account without seeking the approval of the other account owners.
A financial institution can even go to the extent of applying for the right to offset the government payments deposited into your account. For example, the clause can allow the financial institution to recover money from your social security benefits. However, the setoff clause does not apply to tax-deferred retirement accounts like the IRA.
The Rights Of An Account Holder
You could be wondering whether you have any rights as the account holder. If the account opening forms or the documents you signed when opening the account had the setoff clause, there is not much you can do. This would mean that you have given the financial institution the right to access your money and use it to pay a debt according to the terms outlined in the agreement. The agreement with the bank is a legal contract. Therefore, provided you are an account holder, you are subject to it.
In most cases, you will not even know that the financial institution has exercised its setoff right until after the damage is done. However, the right to set off does not mean the financial institution can take money from your account whenever it wants. For example, according to federal law, it is illegal for a federally chartered bank to use the setoff right to offset an overdue credit card bill. The bank can only use the money in your account to pay credit card bills if you authorize the bank to make automatic withdrawals to pay credit card debt. However, most credit card contracts have a provision outlining that setoff is allowed in the event of a default. You should be keen when signing a credit card contract; ensure you understand all the clauses.
California laws could also limit a financial institution's right to offset a debt from your account. In California, a financial institution should not take money from the account and cause the balance to go below $1,000, according to California Financial Code § 6660(b).
Taking government benefits like social security and employment benefits from your account can also be illegal to offset a loan. Other income exempt from the setoff clause includes public assistance and disability benefits. However, even if the bank cannot use the exempt funds to pay a loan, it can use the money to cover the fees you owe on an account, like an overdraft. Therefore, if you owe bank fees on your account, you should open a separate account where future exempt funds will be sent.
How You Can Respond To A Right To Offset
You could not do much if you signed the setoff clause and the bank pulled money from your account to clear a loan. The loan could be an auto loan or a personal loan. However, you can prevent subsequent setoffs by ensuring you are current on your loan payments. The other way around the setoff clause is by moving your personal, checking, or certificate of deposit to another financial institution. Moving the money to another institution will assure you that the lender will not access your money under the right to offset.
You should consult an attorney to inquire about your legal rights if you feel the bank has illegally taken money from your account. You could also contact the Federal Financial Protection Bureau. Other organizations that you can consult are the consumer division of the California Attorney General's Office or the U.S. Controller's Office.
Working With Your Bank To Resolve The Issue
If you cannot repay your debt, contact your bank or credit union for a suitable repayment plan. The bank could be willing to come up with a plan. For example, you could have lost your job and encountered financial difficulty. The best approach is to always be upfront with all your repayments. If you cannot pay, you should cooperate with the lender instead of dodging the issue.
Before You Sign The Loan Or Account Opening Contract
Reading the bank contract when opening an account or applying for a loan is not an enjoyable experience. Yet, ensuring that you are familiar with the right to offset and other provisions outlined in the contract is crucial. By doing this, you can ensure that you will not lose money when you least expect it. Before you sign any contract with the bank, read and understand it. However, if the setoff has already been enforced, ensure that you review the loan agreement and any notice you received about the action.
Find A Bankruptcy Attorney Near Me
You still have options if your bank has tapped into your bank account under the right of offset. For example, you can contact the financial institution for help setting up a repayment plan. You can also contact a state or federal institution protecting consumer rights. You can also contact an experienced bankruptcy lawyer to help you weigh the possibility of filing for bankruptcy. If you need an experienced bankruptcy lawyer, we invite you to contact Sacramento Bankruptcy Lawyer. Contact us at 916-800-7690 to speak to one of our attorneys.
