Monday Export Class with Dr Godwin Oyefeso

Topic: TERMS OF PAYMENT (Part 2)

Parties in Documentary Credits

There are several parties involved in documentary credit arrangement.

The importer (applicant) approaches the bank and initiates the process of opening documentary credit in favour of the He requests the bank to open the documentary credit, incorporating the documents required to be presented by exporter, which are specified in the contract entered into between the importer and exporter.
The banker who issues the letter of credit at the request of the applicant is referred to as the opening or issuing banker who undertakes to make the payment to the exporter on presentation of the required documents, in proper
The bank to whom the letter of credit is sent for authentication and delivery is known as “ Advising Bank’. According to Article 8 of UCP, the advising bank is expected to take reasonable care while verifying the authenticity of the documentary
The bank, which adds the confirmation, is known as “Confirming Bank”. The confirming bank gives its commitment to make the payment if conditions stipulated in the credit are complied with even if the advising bank is unable to pay or refuses to make the Normally, advising bank and confirming bank are one and the same.
Bill of exchange is drawn by the exporter on the importer or named importer’s When the exporter draws the bill on importer, issuing bank of documentary credit becomes the Paying Bank. Alternatively, when draft is drawn on the importer’s bank, that bank becomes the Paying Bank.
When the paying bank is not located in the exporter’s place, credit permits any bank to make the negotiation of documents and disburse payment to the exporter, known as ‘Negotiating Bank’. After payment, the negotiating bank claims reimbursement from the paying Until the paying bank makes the payment, the drawing is not finalised. The negotiating bank can have recourse to the exporter till it can get reimbursement from the paying bank.
The exporter for whose benefit the documentary credit is opened is called the

‘Beneficiary’.

In a documentary credit, there should be at least four parties, applicant, beneficiary, the issuing bank and the advising bank. The advising bank, confirming bank and paying bank may be rolled into one.

Different Types of Letter of Credit

There are different types of letter of credit. They are:

Documentary Letter of Credit: This letter of credit specifies the various documents that are required to be submitted by the exporter to the That is the reason why it is called documentary letter of credit. Following documents are usually specified in the letter of credit.
- Sight or Usance Bill of Exchange
- Commercial Invoice/Customs Invoice
- Consular invoice
- Packing List
- Full set clean-on-board Bill of lading/Airway Bill/Combined Transport Document
- Inspection Certificate
- Marine insurance policy/certificate
- Certificate of origin
- Any other document as required by the buyer, mentioned in letter of credit
Revocable and Irrevocable Credit: Under revocable letter of credit, the opening bank reserves the right to cancel or modify the credit, at any time, without the consent of the beneficiary. This leaves the exporter in lurches. The exporter may realise that the importer has instructed his banker to revoke the credit when the contract is at an advanced stage of execution or even after shipment. This method of payment is not popular as no exporter accepts this unsafe system of In case of irrevocable letter of credit, the opening bank has no right to change the terms of credit, without the consent of the beneficiary. The opening bank is irrevocably committed itself to make the payment, if the documents are in conformity to credit terms specified in the letter of credit. So, the exporter is secured as above said problems do not remain in this type of credit.

According to UCP, the letter of credit should state whether it is revocable or irrevocable credit. In the absence of any specific mention, it is deemed that the credit is irrevocable credit effective from 1st January ’94.

With Recourse or Without Recourse Letter of Credit: The revocable and irrevocable credits are further classified into “With Recourse” and “Without Recourse” letter of

Under ‘With Recourse” letter of credit, the negotiating bank can make the exporter liable, in case of default in payment by the opening bank or importer. For this, Negotiating bank has to obtain suitable undertaking from the exporter for refund of amount paid, in the event of not getting reimbursement from the issuing bank. Under “Without Recourse” letter of credit, the negotiating bank has no recourse to the exporter. But, if the confirming bank happens to be the negotiating bank, it cannot have recourse to the exporter.

A confirmed letter of credit is without recourse to the beneficiary. Unconfirmed or negotiable credit is always with recourse to the beneficiary.

Confirmed and Unconfirmed Letter of Credit: Exporter and importer remain in different countries. Exporter may not be aware of the standing of the issuing In such cases, exporter may insist that the local bank should add confirmation to the credit opened. Normally, importer would not be willing to add confirmation to the credit as it involves additional commission of the confirming bank. After confirmation, the letter of credit becomes confirmed and irrevocable. Once confirmation is added, the confirming bank, which is normally the correspondent bank of the opening bank, adds a clause to the effect that:

“The above credit is confirmed by us and we hereby irrevocably undertake to honour the drafts drawn under this credit on presentation, provided that all the terms and conditions of the credit are duly satisfied”.

When the credit is irrevocable but not confirmed, the issuing bank asks the correspondent bank to advise the credit and in such a case, the correspondent bank will advise the credit with a clause stating that:

“This credit is irrevocable on the part of the issuing bank but is not confirmed by us and therefore it does not involve any undertaking on our part.”

In the absence of confirmation of credit, there is a contingent risk to the exporter. The exporter has to endorse the documents to the negotiating bank. Though the negotiating bank makes the payment to the exporter, it will have recourse on the exporter in the event it does not get reimbursement from the issuing bank.

Transferable and Non-Transferable Letter of Credit: Under transferable letter of credit, exporter can transfer the credit fully or partly to one or more This is possible when the credit clearly states it is “transferable” (no other term is acceptable). In cases, when the product is to be fabricated by a third party, fully or partly, a portion of the credit is made transferable to the third party. Such transfer of credit must be informed to the issuing bank. It is used when the seller is a middleman who can transfer a part of the credit to the exporter for shipping the goods. When the credit is not transferable, it is non-transferable credit.
Fixed and Revolving Letter of Credit: A fixed letter of credit is for a fixed period and amount. Letter of credit expires if the credit is exhausted or period is over, whichever is earlier. In case of revolving letter of credit, the letter of credit would be revived automatically for the same amount and period, once it is Such letter of credit is beneficial when the exporter and importer have frequent dealings of the same nature.
Freely Negotiable and Restricted Letter of Credit: When the letter of credit does not put any condition for the negotiation of documents, it is a freely negotiable letter of This letter of credit can be negotiated through any willing bank. In case, the credit names a specific bank for negotiation, then the letter of credit is a restricted credit. In case, the bank that has been named for negotiation refuses to negotiate, then it is the responsibility of the opening bank to pay as per the terms of credit.
Red Clause and Green Clause Letter of Credit: A red clause letter of credit is one that authorises the exporter to avail pre-shipment finance on the strength of the In this letter of credit, the clause is printed or typed in red ink. Hence, such letter of credit is known as red clause letter of credit. This is a pre-shipment finance provided to the beneficiary by the importer. This credit is liquidated once the documents are negotiated.

In a green clause letter of credit, in addition to pre-shipment finance, storage facilities are allowed at the port of shipment to the exporter by opening bank. Such type of clause is typed or printed in green ink. So, this letter of credit is known as “green clause letter of credit’.

Back-to-Back Letter of Credit: This letter of credit provides pre-shipment finance to the When the beneficiary wants to purchase raw materials from a third party for the purpose of executing export order, or is only a middleman and not the actual supplier of goods, he can ask the bank to open a new letter of credit, on the strength of this credit, in favour of a third party. In this case, a new letter

of credit has to be opened while in the case of transferable credit; the existing credit is only transferred.

Assignable and Non Assignable Letter of Credit: An assignable letter of credit can be assigned to a third party by the beneficiary of the When the buyer is not able to find the real exporter, in the meantime, he opens the credit in favour of his agent or representative. When the agent is able to find an exporter who is willing to supply the goods on the terms of the buyer, he assigns the letter of credit to the supplier of goods. A non-assignable letter of credit is one that cannot be further assigned and so opened only in favour of the real exporter of goods after the exporter confirms the order.
Deferred period of Credit: In this period of credit, the supplier provides credit to the buyer after supply of
Stand by Credit: This is similar to a performance bond or guarantee, but in the nature of letter of The credit assures the beneficiary that in the event of non-performance or non-payment of any obligation, the beneficiary may request the issuing bank to make the payment. The beneficiary has to draw the claim by drawing a bill on the issuing bank, accompanied with documentary evidence in support of non-performance of contract. When the exporter receives the advance payment from importer, importer may insist on exporter to open ‘Stand by credit’ in favour of the importer to protect the latter’s interests.

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