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The relevant provisions governing contractual dealings are found in Sections 59 to 61 of the Indian Contract Act. According to Pollock & Mulla, Indian Contract Act, 12th Edition, the underlying principle is that when several debts are due and owing to one person, any payment made by the debtor either with an express intimation or under circumstances from which an intimation may be implied must be applied to the discharge of the debt in the manner intimated or which can be implied from the circumstances. Mulla proceeds to observe, "In England, 'it has been considered a general rule since Clayton's case that when a debtor makes a payment he may appropriate it to any debt he pleases, and the creditor must apply it accordingly'.

"The principles governing appropriation of payments made by a debtor are under the general law well settled. When a debtor makes a payment, he has a right to have it appropriated in such manner as he decides and if the creditor accepts the payment, he is bound to make the appropriation in accordance with the directions of the debtor. This is what is known in England as the rule in 'Clayton's case" (1861) 1 Mar.572: 35E.R. 781 and it is embodied in Section 59, Contract Act. But when the debtor has not himself made any appropriation, the right devolves on the creditor who can exercise it at any time, vide 'Cory Bros. & Co. vs. Owners of the Turkish Steamship 'Mecca', (1897) A.C. 286; and even at the time of the trial : Vide  'Symore vs. Picket', (1905) 1 K.B. 715. That is Section 60, Contract Act. It is only when there is no appropriation either by the debtor or the creditor that the Court appropriates the payments as provided in Section 61, Contract Act."

14. In Industrial Credit & Development Syndicate Now Called I.C.D.S. Ltd. vs. Smithaben H. Patel (Smt.) and others ((1999) 1 SCR 555], this Court considered the question whether Sections 59 to 61 of the Contract Act would apply to a debt that has merged in a decree. This Court held that Sections 59 and 60 of the Contract Act would be applicable only at pre-decreetal stage and not thereafter, since post decreetal payments are to be made either in terms of the decree or in terms of the agreement arrived at between the parties, though on the general principle as mentioned Sections 59 and 60 of the Contract Act. It was also held that the general rule of appropriation towards a decreetal amount was that such an amount was to be adjusted strictly in accordance with the directions contained in the decree and in the absence of such direction, adjustments be made firstly in payment of interest and costs and thereafter in payment of the principal amount, subject of course, to any agreement between the parties.

16. A Full Bench of the Lahore High Court in Jai Ram vs. Sulakhan Mal [AIR 1941 LAHORE 386] considered the position in detail. That was a case where the property had been sold in execution of a mortgage decree and the question was about the appropriation of the sale proceeds brought to court. The question was referred to the Full Bench in view of the conflict of decisions in that Court on the mode of appropriation. The Full Bench held that Sections 59 to 61 of the Contract Act embody the general rules as to appropriation of payments in cases where a debtor owes several distinct debts to one person and voluntarily makes payment to him. The Sections do not deal with cases in which principal and interest are due on a single debt, or where a decree has been passed on such a debt, carrying interest on the sum adjudged to be due under the decree. After thus finding that Sections 59 to 61 of the Contract Act had no application, the Full Bench proceeded to hold that the general rule of appropriation of payments towards a debt was that in the absence of a specific indication to the contrary by the debtor, the money is first applied in payment of the interest and then when that is satisfied, in payment of the capital. That principle applied even to the sale proceeds of the properties sold in execution of a mortgage decree. Therefore, in the absence of a direction to the contrary in the decree, the sale proceeds of the properties sold in execution of a mortgage decree must be applied first in payment of subsequent interest and costs, and thereafter the balance, to discharge the principal sum declared as payable in the decree. Referring to Rules 12 and 13 of Order XXXIV of the Code, it was stated: