A reader in his comments on a previous post pointed out that the 2004 Calcutta High Court decision in Peerless General Finance had stated that section 3 of the Limitation Act, 1963, does not affect an equitable set-off. This decision, however, had not taken into consideration an older line of authority (1915, Madras High Court, Chetty v. Desikar) which appears to hold that the statute of limitations does apply to equitable setoff. This contradiction raises an interesting issue: can an equitable set-off be raised in answer to a claim, even where the equitable set-off could not be pleaded as an independent claim on account of limitation?
On principle, the argument for allowing an equitable set-off to be pleaded would run thus: Limitation bars the remedy but does not extinguish the right. Equitable set-off is a substantive defence. As long as the right is not extinguished, there is no reason why equitable set-off should not be set up as a substantive defence. On the other hand, it might be contended that equitable setoff operates as a substantive defence on the basis that the two claims are so closely connected, that equity would regard them as one. Hence, when one claim is barred (as a matter of the right to recover, as opposed to a matter of the forum of recovery), equity may not regard the claims as being one. Further, equity must run according to the law and not in derogation thereof.
I have not come across any Indian authorities discussing the issue and the authorities in detail; however, there appears to be substantial discussion in relation to this issue in English law. Lord Denning MR in Henriksens Rederi v. Rolimpex (The Brede)  1 QB 233 stated, “In point of principle, when applying the law of limitation, a distinction must be drawn between a matter which is in the nature of a defence and one which is in the nature of a cross-claim. When a defendant is sued, he can raise any matter which is properly in the nature of a defence, without fear of being met by a period of limitation. No defence, properly so called, is subject to a time-bar. But the defendant cannot raise a matter which is properly the subject of a cross-claim, except within the period of limitation for such a claim.” However, in that case, the majority left this specific point open. Lord Denning’s view was, however, approved in Westdeutsche v. Islington Borough,  4 All ER 89; and then in Filross Securities Ltd v Midgeley  EWCA Civ 1248.
[The decision of the House of Lords in Aries tankers v. Total Transport,  1 WLR 185, where the House held that a claim beyond time could not be pleaded as equitable set-off, is explained on the basis that in that case, the contract between the parties had incorporated Article III Rule 6 of the Hague Rules. The effect of Rule 6 is that the right itself is extinguished – so, Rule 6 is to that extent different from a mere limitation provision which only bars recovery.]