What Is Letter of Credit in International Business

Note that the letter of credit itself may be the source of repayment of the transaction. Seoul Manufacturing may be interested in getting paid once the goods are shipped. Therefore, the letter of credit states that payment must be made as soon as Seoul Manufacturing can provide proof of shipment. A „no recourse“ letter of credit to the recipient is a confirmed LC. While an unconfirmed or transferable letter of credit is made „with recourse“ to the beneficiary. 1) You go to First American Bank and apply for a $50,000 letter of credit from Seoul Manufacturing as a beneficiary. The range of documents that can be requested by the applicant is enormous and varies greatly depending on the country and the goods. There are several methods of document review, each offering different variations in risk for the fact that the documents are legitimate. A documentary letter of credit provides security for buyers and sellers. According to UCP 600, the bank undertakes (or promises) on behalf of the buyer (who is often the applicant) to pay the beneficiary the value of the delivered goods if acceptable documents are presented and if the established conditions are strictly adhered to. The buyer can be sure that only the goods expected by him will be received, as they will be proven in the form of certain documents that meet the conditions indicated.

The Supplier will regain its confidence that, if these conditions are met, it will receive a payment from the issuing bank independent of the Contracting Parties. In some cases, a letter of credit requires that documents be collected. Subject to CCI URC 525, the viewing and use for delivery of shipping documents will be carried out against payment or acceptance of the draft, if the shipment takes place first, then the title documents will be sent from the seller`s bank to the buyer`s bank to deliver the documents against the collection of payment/acceptance. Other forms of payment made are direct payment, where the supplier ships the goods and waits for the buyer to transfer the invoice to the terms of the open invoice. This type of letter allows a customer to make any number of prints in a certain amount of time within a certain limit. Banks generally require collateral for securities or cash as collateral for the issuance of a letter of credit. Abbreviations for „letter of credit“ include L/C, LC and LOC. A letter of credit is essentially a financial contract between a bank, a bank`s customer and a beneficiary. The letter of credit, which is usually issued by an importer`s bank, guarantees that an exporter will be paid as soon as the conditions of the letter of credit are met. The beneficiary is exposed to the risk that he himself does not comply with the credit conditions or that the payment of the issuing bank is in default or late. These risks are considered eliminated. Above all, the beneficiary is not exposed to the risks of compensation by the applicant if the goods are damaged or of inferior quality.

Even if it can be sued by the plaintiff at a later date, the issuing bank cannot reduce the payment due based on the damage suffered. This is crucial to reduce the risk of insolvency. Decisive for a letter of credit is the attempt of the beneficiary (the seller) to isolate himself from the credit risk of the buyer. That is, it is mainly about the buyer`s ability to pay for the goods. To understand each type in detail, read the article Types of letters of credit used in international trade. A letter of guarantee acts as a guarantee that corresponds to a certain percentage of the value of the order. When you complete your contract, the letter of guarantee expires and the bank returns your guarantee. However, if you do not fulfill your contract, your bank will immediately pay the specified amount to your customer. The Civil Code does not deal directly with letters of credit. It is apparent from German case-law that the relationship between the issuing bank and the customer is a contract for the performance of a transaction, whereas the relationship between the issuing bank and the beneficiary is a promise of debt. [28] A letter of credit may be updated.

When an LC is updated, the supplier or owner of the LC must verify that the issuing bank is on the approved list of banks, where the discount bank is located. Once the LC is approved, the discount bank releases the funds after charging a certain amount as a premium. Consecutive letters of credit can also be used to secure the payment of commissions to a party acting as the seller`s agent. 2) The bank goes through its subscription process. Although the bank does not advance money, it lends on your behalf and assumes a contingent liability. If your business qualifies from a credit perspective, the LC will be issued. Due to the nature of international trade, including factors such as distance, the different laws in each country and the difficulty of knowing each party personally, the use of letters of credit has become a very important aspect of international trade. A letter of credit may be transferred, and the beneficiary also has the right to transfer/assign the LC. The LC remains effective regardless of how often the beneficiary allocates/transfers it. A letter of credit or LC is a written document issued by the importer`s bank (opening bank) on behalf of the importer. By issuing it, the exporter is assured that the issuing bank will make a payment to the exporter for international trade between the two parties.

Since the transaction is based on a negotiable instrument, it is the document itself that contains the value – not the referenced goods. This means that the bank only has to worry about whether the document meets the requirements set out in the letter of credit. Some countries have created laws regarding letters of credit. For example, most jurisdictions in the United States have adopted Article 5 of the Uniform Commercial Code (UCC). These laws are designed to work with market rules of practice, including UCP and ISP98. These rules of conduct will be incorporated into the transaction by agreement of the parties. The latest version of the UCP is UCP600 with effect from 1 July 2007. Since PCUs are not laws, the parties must include them as normal contractual provisions in their agreements.

However, they remain an essential element of market practice and constitute a decisive foundation of financial law. A letter of credit is beneficial for both parties because it assures the seller that he will receive his money when performing the terms of the commercial contract and that the buyer can present his creditworthiness and negotiate longer payment terms by having a bank that supports the business transaction. .