Short answer. Yes, they can still cancel out. Article 1286 says compensation takes place by operation of law even when the two debts are payable in different places. The only condition is that whoever is disadvantaged by the different locations is entitled to an indemnity for the expenses of exchange or transportation to the place of payment.
What the law says
Compensation takes place by operation of law, even though the debts may be payable at different places, but there shall be an indemnity for expenses of exchange or transportation to the place of payment.
Civil Code, Article 1286 — Compensation Despite Different Places. Read the full provision →
Compensation happens by operation of law
When two people owe each other money, the law can cancel the debts against one another without either of them lifting a finger. That is compensation, or set-off. Article 1286 confirms that compensation takes place by operation of law in this situation. To the extent the two debts match, they simply extinguish each other, and only the difference remains payable by whoever owes more. You and your supplier are each other's debtor and creditor, so the mechanism is available to you: the mutual debts can wipe each other out up to the overlapping amount, leaving just the balance.
Different places of payment are no obstacle
Your worry is that the two debts are payable in different cities. Article 1286 addresses exactly that, saying compensation applies even though the debts may be payable at different places. The physical location where each debt was to be paid does not block the set-off. The law looks at the substance — two reciprocal money debts — rather than the logistics of where each was meant to be settled. So the fact that your obligation was payable in one city and your supplier's in another does not prevent the two from cancelling each other out.
The indemnity for exchange or transport
The article does attach a fairness adjustment. It provides that there shall be an indemnity for expenses of exchange or transportation to the place of payment. The idea is that a party who would have received or made payment in a particular place should not be worse off just because the debts were netted instead. So whoever bears a cost from the different locations — for instance, the expense of moving funds or converting them to the place of payment — is entitled to be indemnified for it. Compensation cancels the debts, and this indemnity keeps the different places from unfairly advantaging one side.
What still must be true
Article 1286 removes the obstacle of different places, but it does not dispense with the other requisites of legal compensation. Both of you must be principal debtors and creditors of each other; both debts must consist of money or the same kind of thing; both must be due, liquidated, and demandable; and there must be no retention or controversy over either debt raised by a third person. If, say, one debt is still disputed or not yet due, compensation will not operate until that is resolved. Where all the requisites are met, though, the difference in cities is simply not a barrier — with the indemnity balancing the cost.
Cases citing this provision
These Supreme Court decisions cite the provision above. We list them so you can read them yourself; the summaries of what each decided are not ours to give.
- Citibank, N.A., et al. vs. Modesta R. Sabeniano, G.R. No. 156132, February 6, 2007 — read the decision on LawPhil →