Description
what is letter of credit, who are the parties to letter of credit, what are the rights and responsibilities of Parties to a Letter of Credit, what are the different types of letter of credits
Concepts in Documentary Credits
Letter of Credit Letter of Credit is a document issued by the importer’s bank in favour of the exporter giving him the authority to draw bills up to a particular amount (as per the contract price) covering a specified shipment of goods and assuring him of payment against the delivery of shipping documents. The operations of Letter of Credit have been regulated and are governed by the Articles of “Uniform Customs and Practice for Documentary Credits i.e. UCP500 and/or eUCP 2002 (Supplement to UCP 500 for Electronic Presentation) of International Chamber of Commerce, Paris. The Uniform Customs and Practice (1993) Revision (UCP 500) defines a Letter of Credit as ‘Documentary Credit(s) and Standby Letters of Credit’ mean any arrangement, however named or described, whereby a bank (the issuing bank) acting at the request and on the instructions of a customer (the applicant) or on its behalf: (i) is to make payment to or to the order of a third party (the beneficiary) or is to accept and pay bills of exchange (drafts) drawn by the beneficiary or authorizes another bank to effect such payment, o9r to accept and pay such bills of exchange [Draft(s)], or authorizes another bank to negotiate against stipulated document(s) provided that the terms and conditions of the credit are complied with.
(ii)
(iii)
Parties to a Letter of Credit •
Applicant/Importer: Importer is the ‘Opener’ on whose behalf or account,
the Letter of Credit is issued by his bank.
•
Applicant’s/Importer’s Bank:The bank who issues or opens the Letter of
Credit on behalf of the Importer/customer.
•
Exporter: Exporter is the ‘Beneficiary’ if the Letter of Credit who is entitled
to receive the payment of his bills according to the terms of Letter of Credit.
•
Intermediary / Confirming Bank: Intermediary bank is the bank usually a
branch or the correspondent of the opening bank in the exporting country through which the credit is advised to the exporter. If it merely forwards the credit, without any obligation on its part, it is called the ‘Advising’ or ‘Notifying’ bank. If the beneficiary bank adds its own undertaking to the credit while advising it to the beneficiary, it becomes the ‘Confirming Bank’.
•
Paying/Negotiating Bank: The Bank, which negotiates the beneficiary’s
bills under the credit and pays for it is known as ‘Paying /negotiating Bank.
Rights and Responsibilities of Parties to a Letter of Credit All the parties to a Letter of Credit have certain rights and responsibilities, which are codified in the Uniform Customs and Practice for Documentary Credits (UCP 500). It is important to note that in documentary credit operations, all parties concerned deal with documents and not with goods, services or performance to which the documents may relate. Under FOB, C & F and CIF contracts, the exporter has right to receive payment against documents are stipulated in two relative sale and purchase contracts and translated in the documentary credit. The letter of credit by its nature is separate from the sale contract or a any other contract on which it may be based and banks are in no way concerned with or bound by such contracts even if the credit bears reference to them. It is the exporter’s responsibility to ship the goods contracted for and deliver the shipping documents stipulated in the letter of credit. The negotiating and credit-opening bank will examine all documents with reasonable care to ascertain accordance with the terms and conditions of the credit. The negotiating bank is entitled to receive reimbursement from the opening bank for the payment, acceptance or negotiation against such documents as are in accordance with the credit terms and the opening bank has a right to claim and receive payment from the opener of such documents. It is the responsibility of the opener to take up the documents and pay for them. He has, however, right to refuse discrepancies. The opener is bound by and liable to indemnify the banks against all obligations and responsibilities imposed by foreign laws and usages. Since the letter of credit normally provides for bill finance for the foreign trade transaction, the opener of the credit usually becomes the drawee of the bill of exchange unless it is arranged that the bill be drawn on the intermediary bank/opening bank. The intermediary bank, which negotiates the bill becomes the holder in due course and the opening bank, which reimburses the negotiating bank, becomes the second holder in due course and for value. These aspects of the letter of credit and bill transaction can be easily understood in the following manner: 1. The importer (opener) has concluded a purchase contract for buying of certain goods with his overseas supplier who wants payment by a letter of credit. The importer asks his bank to open a letter of credit in favour of his overseas suppliers. After the request from the importer and considering the proposal, his bank opens a letter of credit in favour of supplier (exporter). The advising bank (an intermediary bank in the exporter’s country) receives credit from the opening bank and after satisfying itself about the authenticity of the credit, it forwards the same to the beneficiary. After receiving the credit from the advising bank, the exporter checks it to ensure that it confirms to the terms of sale contract and if necessary, asks the importer to effect amendments to the credit and then proceeds to effect the shipment of goods.
2.
3.
4.
5.
After the shipment is effected the exporter prepares the documents and draws his bill under the letter of credit for obtaining payment from the negotiating bank. After getting the documents and the bill from exporter, the negotiating bank checks them with the letter of credit and if in order, negotiates the bill and pays to the exporter. The opening bank (importer’s bank) receives the bill and documents from the negotiating bank (exporter’s bank), checks them and if found in order, reimburses, of if reimbursement is obtained already, confirms it to the negotiating bank. The opening bank presents the bill for acceptance/payment to the opener (importer). The importer (opener) receives the bill, checks the documents and then accepts/pays the bill. On acceptance/payment, he gets the shipping documents covering the goods purchased by him.
6.
7.
8.
Type of Letters of Credit Basically, the letter of credit is either (i) revocable or (ii) irrevocable. All credits, therefore, should clearly indicate whether they are revocable or irrevocable. In the absence of such indication, the credit shall be deemed to be irrevocable. Credit The various types of Letters of Credit are outlined below: • Revocable Letter of Credit: A revocable can be amended or cancelled by the issuing bank at any moment and without prior notice to the beneficiary. This credit does not constitute a legally binding between the bank or banks concerned and the beneficiary, because such a credit may be modified or cancelled at any moment without prior notice to the beneficiary. This credit is of limited utility and is not in much use. Irrevocable Letter of Credit: An Irrevocable credit constitutes a definite undertaking of the issuing bank for the payment of the bills drawn under it, provided the beneficiary presents the stipulated documents to the credit nominated bank or to the issuing bank and complies with all the conditions of the credit. This type of credit can neither be modified nor cancelled without prior approval of the beneficiary concerned and it is, therefore, widely accepted. Confirmed Letter of Credit: When an issuing bank authorizes or requests another bank to confirm its irrevocable credit and the latter has added its confirmation, such a confirmation constitutes a definite undertaking of the confirming bank to pay against presentation of proper documents. This credit is confirmed under the express authority of the advising bank or upon request of the issuing bank. By adding its confirmation, the confirming bank steps into the shoes of the issuing bank and consequently its confirmation constitutes a definite undertaking to honour its commitment provided stipulated documents are presented and the terms and conditions are complied with. Such an undertaking can neither be
•
•
amended nor be cancelled without the agreement of the issuing bank, the confirming bank and the beneficiary. • Transferable Credit: Under transferable letter of credit, the beneficiary is entitled to request the paying, accepting, negotiating bank to pay, accept, negotiate bills tendered by one or more other parties. Back to Back Credit: When the exporter uses his export letter of credit as a cover for opening a credit in favour of the local suppliers, this credit is called ‘Back to Back Credit’. Anticipatory Letters of Credit (‘Red Clause’ and ‘Green Clause’): The anticipatory credit provides for advance payment, or at least part payment to the beneficiary against his undertaking to effect the shipment and submit the bill and/or documents in terms of credit within the validity. Revolving Letter of Credit: In a revolving credit the amount of a drawing is reinstated and made available to the beneficiary again after a period of time on the advice of payment by the applicant or merely the fact that shipment has been made. Deferred Payment Letter of Credit: In this sort of credit, the exporter supplies Plant and Machineries, Capital Goods etc. on deferred payment terms to an importer and no draft is drawn and payment by the opening bank is determined in accordance with the terms laid down in the credit. Transit Credit: It is issued in one foreign country with the beneficiary in another but it is advised through and usually confirmed by a bank in London. Credit available by Instalment: This credit specifies shipments and /or drawings by instalment stipulating specific period for each instalment of shipment and/or drawings. In case any instalment of shipment is missed credit will not be available for that and the subsequent instalments expect when credit permit such lapse. Restricted and Unrestricted Credit: Credit which do not specify any particular bank who is authorised to negotiate etc. is termed as ‘unrestricted credit or open or general credit’. If a specified bank is designated to pay, accept or negotiate the credit, it is termed as ‘restricted or special credit’.
•
•
•
•
•
•
•
doc_862673845.pdf
what is letter of credit, who are the parties to letter of credit, what are the rights and responsibilities of Parties to a Letter of Credit, what are the different types of letter of credits
Concepts in Documentary Credits
Letter of Credit Letter of Credit is a document issued by the importer’s bank in favour of the exporter giving him the authority to draw bills up to a particular amount (as per the contract price) covering a specified shipment of goods and assuring him of payment against the delivery of shipping documents. The operations of Letter of Credit have been regulated and are governed by the Articles of “Uniform Customs and Practice for Documentary Credits i.e. UCP500 and/or eUCP 2002 (Supplement to UCP 500 for Electronic Presentation) of International Chamber of Commerce, Paris. The Uniform Customs and Practice (1993) Revision (UCP 500) defines a Letter of Credit as ‘Documentary Credit(s) and Standby Letters of Credit’ mean any arrangement, however named or described, whereby a bank (the issuing bank) acting at the request and on the instructions of a customer (the applicant) or on its behalf: (i) is to make payment to or to the order of a third party (the beneficiary) or is to accept and pay bills of exchange (drafts) drawn by the beneficiary or authorizes another bank to effect such payment, o9r to accept and pay such bills of exchange [Draft(s)], or authorizes another bank to negotiate against stipulated document(s) provided that the terms and conditions of the credit are complied with.
(ii)
(iii)
Parties to a Letter of Credit •
Applicant/Importer: Importer is the ‘Opener’ on whose behalf or account,
the Letter of Credit is issued by his bank.
•
Applicant’s/Importer’s Bank:The bank who issues or opens the Letter of
Credit on behalf of the Importer/customer.
•
Exporter: Exporter is the ‘Beneficiary’ if the Letter of Credit who is entitled
to receive the payment of his bills according to the terms of Letter of Credit.
•
Intermediary / Confirming Bank: Intermediary bank is the bank usually a
branch or the correspondent of the opening bank in the exporting country through which the credit is advised to the exporter. If it merely forwards the credit, without any obligation on its part, it is called the ‘Advising’ or ‘Notifying’ bank. If the beneficiary bank adds its own undertaking to the credit while advising it to the beneficiary, it becomes the ‘Confirming Bank’.
•
Paying/Negotiating Bank: The Bank, which negotiates the beneficiary’s
bills under the credit and pays for it is known as ‘Paying /negotiating Bank.
Rights and Responsibilities of Parties to a Letter of Credit All the parties to a Letter of Credit have certain rights and responsibilities, which are codified in the Uniform Customs and Practice for Documentary Credits (UCP 500). It is important to note that in documentary credit operations, all parties concerned deal with documents and not with goods, services or performance to which the documents may relate. Under FOB, C & F and CIF contracts, the exporter has right to receive payment against documents are stipulated in two relative sale and purchase contracts and translated in the documentary credit. The letter of credit by its nature is separate from the sale contract or a any other contract on which it may be based and banks are in no way concerned with or bound by such contracts even if the credit bears reference to them. It is the exporter’s responsibility to ship the goods contracted for and deliver the shipping documents stipulated in the letter of credit. The negotiating and credit-opening bank will examine all documents with reasonable care to ascertain accordance with the terms and conditions of the credit. The negotiating bank is entitled to receive reimbursement from the opening bank for the payment, acceptance or negotiation against such documents as are in accordance with the credit terms and the opening bank has a right to claim and receive payment from the opener of such documents. It is the responsibility of the opener to take up the documents and pay for them. He has, however, right to refuse discrepancies. The opener is bound by and liable to indemnify the banks against all obligations and responsibilities imposed by foreign laws and usages. Since the letter of credit normally provides for bill finance for the foreign trade transaction, the opener of the credit usually becomes the drawee of the bill of exchange unless it is arranged that the bill be drawn on the intermediary bank/opening bank. The intermediary bank, which negotiates the bill becomes the holder in due course and the opening bank, which reimburses the negotiating bank, becomes the second holder in due course and for value. These aspects of the letter of credit and bill transaction can be easily understood in the following manner: 1. The importer (opener) has concluded a purchase contract for buying of certain goods with his overseas supplier who wants payment by a letter of credit. The importer asks his bank to open a letter of credit in favour of his overseas suppliers. After the request from the importer and considering the proposal, his bank opens a letter of credit in favour of supplier (exporter). The advising bank (an intermediary bank in the exporter’s country) receives credit from the opening bank and after satisfying itself about the authenticity of the credit, it forwards the same to the beneficiary. After receiving the credit from the advising bank, the exporter checks it to ensure that it confirms to the terms of sale contract and if necessary, asks the importer to effect amendments to the credit and then proceeds to effect the shipment of goods.
2.
3.
4.
5.
After the shipment is effected the exporter prepares the documents and draws his bill under the letter of credit for obtaining payment from the negotiating bank. After getting the documents and the bill from exporter, the negotiating bank checks them with the letter of credit and if in order, negotiates the bill and pays to the exporter. The opening bank (importer’s bank) receives the bill and documents from the negotiating bank (exporter’s bank), checks them and if found in order, reimburses, of if reimbursement is obtained already, confirms it to the negotiating bank. The opening bank presents the bill for acceptance/payment to the opener (importer). The importer (opener) receives the bill, checks the documents and then accepts/pays the bill. On acceptance/payment, he gets the shipping documents covering the goods purchased by him.
6.
7.
8.
Type of Letters of Credit Basically, the letter of credit is either (i) revocable or (ii) irrevocable. All credits, therefore, should clearly indicate whether they are revocable or irrevocable. In the absence of such indication, the credit shall be deemed to be irrevocable. Credit The various types of Letters of Credit are outlined below: • Revocable Letter of Credit: A revocable can be amended or cancelled by the issuing bank at any moment and without prior notice to the beneficiary. This credit does not constitute a legally binding between the bank or banks concerned and the beneficiary, because such a credit may be modified or cancelled at any moment without prior notice to the beneficiary. This credit is of limited utility and is not in much use. Irrevocable Letter of Credit: An Irrevocable credit constitutes a definite undertaking of the issuing bank for the payment of the bills drawn under it, provided the beneficiary presents the stipulated documents to the credit nominated bank or to the issuing bank and complies with all the conditions of the credit. This type of credit can neither be modified nor cancelled without prior approval of the beneficiary concerned and it is, therefore, widely accepted. Confirmed Letter of Credit: When an issuing bank authorizes or requests another bank to confirm its irrevocable credit and the latter has added its confirmation, such a confirmation constitutes a definite undertaking of the confirming bank to pay against presentation of proper documents. This credit is confirmed under the express authority of the advising bank or upon request of the issuing bank. By adding its confirmation, the confirming bank steps into the shoes of the issuing bank and consequently its confirmation constitutes a definite undertaking to honour its commitment provided stipulated documents are presented and the terms and conditions are complied with. Such an undertaking can neither be
•
•
amended nor be cancelled without the agreement of the issuing bank, the confirming bank and the beneficiary. • Transferable Credit: Under transferable letter of credit, the beneficiary is entitled to request the paying, accepting, negotiating bank to pay, accept, negotiate bills tendered by one or more other parties. Back to Back Credit: When the exporter uses his export letter of credit as a cover for opening a credit in favour of the local suppliers, this credit is called ‘Back to Back Credit’. Anticipatory Letters of Credit (‘Red Clause’ and ‘Green Clause’): The anticipatory credit provides for advance payment, or at least part payment to the beneficiary against his undertaking to effect the shipment and submit the bill and/or documents in terms of credit within the validity. Revolving Letter of Credit: In a revolving credit the amount of a drawing is reinstated and made available to the beneficiary again after a period of time on the advice of payment by the applicant or merely the fact that shipment has been made. Deferred Payment Letter of Credit: In this sort of credit, the exporter supplies Plant and Machineries, Capital Goods etc. on deferred payment terms to an importer and no draft is drawn and payment by the opening bank is determined in accordance with the terms laid down in the credit. Transit Credit: It is issued in one foreign country with the beneficiary in another but it is advised through and usually confirmed by a bank in London. Credit available by Instalment: This credit specifies shipments and /or drawings by instalment stipulating specific period for each instalment of shipment and/or drawings. In case any instalment of shipment is missed credit will not be available for that and the subsequent instalments expect when credit permit such lapse. Restricted and Unrestricted Credit: Credit which do not specify any particular bank who is authorised to negotiate etc. is termed as ‘unrestricted credit or open or general credit’. If a specified bank is designated to pay, accept or negotiate the credit, it is termed as ‘restricted or special credit’.
•
•
•
•
•
•
•
doc_862673845.pdf