This section is from the book "The Law Of Contracts", by William Herbert Page. Also available from Amazon: Commercial Contracts: A Practical Guide to Deals, Contracts, Agreements and Promises.
The problem of the appropriation of payments, or as it is sometimes called, application of payments, or imputation of payments, arises where a debtor owes two or more distinct debts to his creditor, or where he owes a single debt which consists of two or more items or which consists of a principal debt and one or more incidents thereto, such as interest. If, under such circumstances, a payment is made by the debtor or by some one on his behalf to the creditor, the legal rights of the debtor and creditor, or the legal rights of third persons, are often affected seriously by the application of such payment to one of such debts or items or incidents, or by its application to the other item or incident, or by a pro rata application of the payment among the different debts. In determining what application is to be made of such payment it is necessary to ascertain whether the payment is a voluntary payment or an involuntary one; and if it is a voluntary payment, whether an application of the payment was agreed upon in advance, or whether it was directed by the debtor, or made by the creditor. It may also be necessary to ascertain the source of the fund from which the payment is made, for the purpose of effecting justice between the parties in carrying out their probable intention.
The doctrine of appropriation of payments has no application where there is but one debt owing by a debtor to a given creditor.1 The fact that a debtor owes two debts to two different creditors, one of whom is the agent of the other, may raise a question as to the right between the two creditors; but it does not raise a question of the appropriation of a payment if the debtor has indicated his intention as to which of the debts his payment was intended to discharge.2