Letters of Credit

A documentary LC is a type of payment in which the importer arranges with his own bank for the issue of a letter of credit, ie payment via the importers’ and exporter’s banks to the exporter, sub-ject to certain conditions. For the exporter to obtain payment, all his shipping and any other documents must comply exactly with the instructions laid down in the letter of credit. Hence, it is important that as an importer you do not lay down onerous conditions that are difficult for the exporter to meet. In addition, you should be willing to agree to any reasonable request for the amendments that may be requested by the exporter, such as changes to final shipping dates.

Almost all countries and banks worldwide subscribe to a set of rules known as uniform customs and practice (UCP). The latest version of these rules, known as UCP 500, came into operation in January 1994. Although UCP 500 is not legally binding, it will be taken into consideration in any dispute, providing a condition is included in the letter of credit stating that it is subject to UCP 500.
Copies of UCP 500 and related papers can be obtained from your bank or from the international Chamber of Commerce (ICC) office in London. A new version of UCP rules is currently being considered and importers should be alert for their introduction. Blank letters of credit can be obtained from stationery suppliers of international trade forms and sometimes from your own bank. The bank will help you complete them but you must be careful to specify the documents and conditions you require to protect yourself against faulty practices such as the delivery of wrong or faulty goods, unreal shipping dates and unsuitable payment requirements. Normally, letters of credit are irrevocable, so once opened they cannot be cancelled; however, amendments can be made through the participating banks by agreement between the exporter and yourself. Provided the exporter’s documents comply with the letter of credit you will have to pay for the goods regardless of their actual quality and condition on arrival.

To open an LC the importer must make available to his bank the money to cover the LC or arrange for the money to be available when required, especially if he is recieveing credit from an exporter. Such credit may be for anything up to 360 days but more usually it is for 30 or 60 days. The cost of this credit is likely to be reflected in the price of the goods.

The exporter may ask for the letter of credit to be confirmed. This means that the bank, normally in the exporter’s country has fulfilled all terms and conditions in the document. The exporter stipulates the confirming bank in his own country but does not usually pay the confirming fees. However, sometimes the exporter will pay them to ensure that he receives payment if the importer is unwilling to pay for confirmation.

In addition to the normal letters of credit described above there are special LC’s such as standby, revolving and transferable LCs. Smaller importers are unlikely to use any of these unless they purchase regularly from one overseas supplier and wish to use a revolving LC to avoid having continuously open a new LC every time a delivery is required. Your bank will explain how you can open a revolving LC. The buyer and seller who are the parties to an LC should ensure that they agree the following points to be included in the LC:

- Description of the goods.
- Price and delivery terms.
- Latest date for shipment.
- Method of payment, place of payment, currency.
- Method of shipment, ie air, road, rail or sea.
- With or without transhipment.
- Part shipment allowed or not allowed.
- Documents required by the buyer, eg certificate of origin, guarantee certificate, invoices, import licences etc.
- Responsibility for bank charges and confirmation fees.

Your bank will expect all these points to be included when you open an LC. Furthermore, you will normally require a pro forma invoice to present to your bank as the main proof of your LC requirements. A pro forma’ on it, and is the same as a normal invoice with the words ‘pro forma’ on it, and is regarded as a sample specimen invoice. The normal invoice is submitted with other documents by the seller to his own bank when he is seeking payment of the LC.

Should the seller receive an LC containing instructions with which he is unable to comply, he should immediately telephone or fax you with the request that you issue instructions to your bank to make an amendment. Provided the bank agrees, it will immediately inform the seller’s bank of the amendment. This most frequently arises when there is a delay in the departure of a ship leading to shipment after the final nominated shipping date. Unless the exporter knows you well, he will not ship until he has your amendment giving a new final shipping date, thus leading to further delays, However, if you are confident in each other, he will ‘ship on trust’ knowing you will issue an amendment and therefore anticipate it to avoid further delays. SITPRO issue a letter of credit checklists and guide which is of considerable help to both importers and exporters.