A Letter of Credit in a nutshell
The shipping industry is not short of documents required to move cargo from A to B. One of the first documents that are generally arranged after finalizing an order is a Letter of Credit.
A Letter of Credit or L/C is essentially a bank guarantee for payment issued from one bank to another, for a specific entity and under specific conditions, where an international purchase has taken place. It plays an important role in trade due to the nature and complexity of international trade, giving peace of mind to both parties and mitigating their risks.
The International Chamber of Commerce Uniform Customs and Practice for Documentary Credits oversees L/C’s used in international trade.
There are different types of L/C’s used, namely:
Commercial Letter of Credit
A direct payment method where the issuing bank makes the payments to the beneficiary. There is also a standby letter of credit, a secondary payment method, where the bank pays the beneficiary only when the holder can’t.
Revolving Letter of Credit
This method allows a customer of the bank to make any number of draws within a certain limit during a specific time period.
Traveller’s Letter of Credit
When representatives of an entity travel abroad, this letter will guarantee that issuing banks will honour drafts made at certain foreign banks.
Confirmed Letter of Credit
A confirmed letter of credit involves a bank other than the issuing bank guaranteeing the letter of credit. The second bank is the confirming bank, typically the seller’s bank. The confirming bank ensures payment under the letter of credit if the holder and the issuing bank default. The issuing bank in international transactions typically requests this arrangement.
Below is a summary of key points when dealing with a letter of credit:
- You will need an original Bill on presentation in order to validate that you have submitted compliant documents.
- The Letter of Credit will be collected from the local office of the bank/ credit provider involved.
- The consignee will not legally be allowed to take/ collect the cargo if they have not received the original Letter of Credit from the bank.
- A Letter of Credit’s terms allow you to secure a specific payment date and is customized to your needs. Very specific terms can be set for payment to suit your business needs.
Your banker/ credit provider will be able to assist with all concerns around a Letter of Credit, including the options available and suitable to your business.