Letter of Credit
Letter of Credit - is a safe means of financing in international trade in the form of payments for delivery of the goods, rendering of services or executions of works between parties - Exporter and Importer.
For the Exporter - letter of credit provides protection of interests of the Exporter in comparison with payment upon fact of delivery, and also removes risk of insolvency of the Importer as the letter of credit - a unconditional obligation of bank to pay without dependence from presence, or absence at bank of means from the applicant of the letter of credit.
For the Importer - letter of credit provides protection of interests of the Importer in comparison with advance payment, and also removes risk of unconscientiousness of the Exporter as under the letter of credit can be required, among other documents, the documents which have been written out by the third independent parties (commercial and industrial chamber, insurance company, independent inspector).
Applicant - issuer (Importer) which instructs bank to issue L/C and determines L/C terms.
Beneficiary - receiver (Exporter) of L/C in favor of whom L/C was issued.
Issuing bank - bank that issue (emits) a letter of credit on behalf of applicant (Importer).
Advising bank - bank which is assigned by the issuing bank for advising (notice) of L/C terms to the beneficiary (Exporter) without obligation to payment, acceptance or negotiation.
Nominated bank - bank which is authorized or permitted by the issuing bank to make payments under a L/C in accordance with the terms of the L/C and interbank agreements on behalf of the issuing bank. Executing bank can be - issuing bank, beneficiary's bank or another bank.
For payments under the L/C the bank (issuing bank) operating on behalf of applicant (Importer) about opening of the L/C, undertakes to make payments in favour of beneficiary (Exporter), i.e. the receiver of funds after representation of the documents according all conditions of the L/C, or to give power to other bank (nominated bank) to make such payments.
In the international practice the attitudes of the parties under the L/C are adjusted according to the Uniform Customs and Practices for Documentary Credits (UCP), International Chamber of Commerce (ICC), Publication No. 600, latest revision and also according banking practice.
Advantages of the L/C:
- Elimination of risk of insolvency;
- Elimination of risk of a wrong direction of funds;
- Elimination of risk of loss of funds;
- Elimination of risk of unilateral change of the agreed conditions of the transaction after the conclusion of the contract and opening of the L/C;
- A guarantee of appropriate execution of obligations; - legal and documentary security of the parties;
- An opportunity of use of the L/C in systems of the connected transactions, including as funds of financing and maintenance of financing.
The main stages of the transaction by L/C:
1. The contract between the Exporter and Importer.
2. Order from Importer (applicant) to his bank (issuing bank) to open a L/C.
3. Opening of L/C - message from Importer's bank (issuing bank) to the Exporter's bank (advising bank) about opening a L/C in favor of the Exporter (beneficiary).
4. Advising of L/C - message from Exporter's bank (advising bank) to the Exporter (beneficiary) about open L/C at his favor.
5. Delivery by the Exporter (beneficiary) the goods, rendering of services or executions of works for the Importer (applicant) and registration of documents according to conditions of the L/C.
6. Representation of documents for payment - provide by the Exporter (applicant) the documents to the bank stipulated by conditions of the L/C, for verification and the subsequent representation to nominated bank or issuing bank.
7. Verification of documents - executing bank verify conformity of documents to conditions of the L/C according to the international standards of verification of documents and the international customs and practices.
8. Payment by L/C - decision-making by executing bank to payment of documents, payment to bank coordinates of the Exporter (beneficiary).
9. Transfer by executing bank the documents to the Importer (applicant).
Draft of Letter of Credit