Letters of Credit

To the Buyer

• No advance payment required — cash is released only when documents are presented.
• A banker's guarantee can induce the seller to extend credit or offer better terms.
• Buyer can specify precise terms and conditions in the LC to protect their interests.

To the Seller

• Payment is assured on complying with LC terms — the buyer's creditworthiness is replaced by the bank's guarantee.
• Seller can draw bills immediately on shipment and get them negotiated — no waiting for the buyer to receive goods and pay.

The party who applies to their bank to open an LC — they are purchasing goods or services. They fill out the LC application form specifying all terms. In the Bharath illustration: M/s Bharath & Co.

The party in whose favour the LC is opened — they are entitled to receive payment or draw bills under the LC on complying with its terms. In the illustration: M/s Edward & Co.

The bank that opens the LC at the applicant's request and undertakes to pay provided the documents comply with the LC terms. This is the primary obligor under the LC. In the illustration: Bank of India.

The bank in the beneficiary's/exporter's country through which the LC is forwarded to the beneficiary. The advising bank verifies the LC's authenticity and genuineness before advising — but takes on no payment obligation by merely advising. In the illustration: Barclays Bank (UK).

The bank in the beneficiary's country that negotiates the bills drawn under the LC — i.e., examines the documents and makes payment to the beneficiary. If the LC names a specific bank, that bank is the negotiating/nominated bank. If no bank is specified, any bank can negotiate. In the illustration: Barclays Bank (also the advising bank).

If the beneficiary is not satisfied with the issuing bank's standing, they can ask their local bank to add its own confirmation to the LC. The confirming bank then becomes jointly and severally liable — creating a direct, independent obligation on the confirming bank to pay. This protection is available only on instructions from the issuing bank.

Ordinary LCs are sight credits — payment is immediate on presentation of documents. In an acceptance credit, the beneficiary draws usance bills (payable at a future date), which the bank accepts. The buyer obtains credit; the seller can either wait for maturity or discount the accepted bill immediately.

An LC that cannot be amended or cancelled without the consent of the beneficiary. Under UCPDC 600, all credits are irrevocable — the old distinction between revocable and irrevocable has been abolished. The issuing bank is bound by its commitments in the credit.

When the advising bank adds its own confirmation to the credit, the credit becomes confirmed. The confirming bank then has an independent, primary obligation to pay — just like the issuing bank. This is done only on instructions from the issuing bank, so any changes require all parties' concurrence.

When a beneficiary draws a bill under an LC, they normally remain liable if the drawee (bank) doesn't pay — this is 'with recourse'. Adding 'without recourse' to the bill extinguishes the drawer's liability to endorsees. However, RBI guidelines prohibit banks from accepting inland bills drawn 'without recourse' for negotiation. Note: 'without recourse' does not protect the beneficiary if the documents are discrepant.

Normally, an LC's benefits cannot be transferred — they vest in the named beneficiary. A transferable credit is one that explicitly allows the beneficiary to transfer their rights to one or more third parties (second beneficiaries). Unless the LC specifically states 'transferable', it is not transferable.

The beneficiary of an LC uses it as security to open a second LC from their own bank in favour of their supplier. Three banks are involved: the original issuing bank, the back-to-back issuing bank (beneficiary's bank), and the ultimate supplier's negotiating bank.

A clause in the LC that authorises the advising/negotiating bank to make pre-shipment advances to the beneficiary (i.e., before the goods are shipped). The clause is printed in red ink — hence the name. The advance is used to procure and pack the goods. The advance is settled when the beneficiary presents documents.

An extension of the red clause. In addition to pre-shipment advances, the green clause also permits advances to cover storage of goods at the port of shipment. Both red and green clause credits are called anticipatory credits — payment is advanced in anticipation of shipment.

In a regular LC, once the bills are negotiated the transaction is over — a fresh LC must be opened for each shipment. A revolving LC avoids this. The credit amount is fixed but automatically renews after each set of bills is negotiated and paid. Ideal for regular trade between the same parties.

• The payment instrument under which the claim is made. Also called 'bill' or 'draft'.
• Only the beneficiary can draw the bill under an LC.
• Amount must be within the LC limit; tenor, endorsement, and drawee must match the LC exactly.
• May be sight (payable on presentation) or usance (payable on a future date).

• Gives details of the sale — description of goods, quantity, unit price, total value.
• Must be made in the name of the applicant and in the currency of the LC.
• Must not describe goods differently from the LC; must not overstate or understate value.
• Overshipping scenario: if LC is for ₹15 lakh and goods are worth ₹20 lakh, the extra ₹5 lakh cannot be paid under the LC — the invoice for ₹20 lakh with a request for partial payment is not acceptable.

• A document of title — the holder is entitled to collect the goods from the shipping company.
• Negotiable by endorsement: a bona fide transferee who takes the BL gets title to the goods.
• Issued in sets of 2, 3, or 4 — all are originals. Bank must receive all originals.
• Must be a 'shipped on board' BL unless the LC specifies otherwise. 'Received for shipment' or 'charter party' BL is generally not acceptable — 'shipped' means the goods are actually on board and the voyage has started.

• Evidences that goods have been received by an airline or its agent.
• Unlike a BL, an airway bill is NOT a document of title — the goods are sent directly to the buyer at the destination.
• The bank cannot use an airway bill to stop delivery of goods to the buyer; it relies entirely on the applicant's creditworthiness.
• Banks accept airway bills only if the LC specifically permits them.

• Used when goods are sent in small quantities through postal or courier services.
• Similar in nature to an airway bill — NOT a document of title.
• Goods are usually addressed directly to the buyer.

• Required if the LC calls for insurance. Must be signed by an insurer, underwriter, or their agent.
• Type of cover, currency, insured amount, risks covered, and place of claim payment must match LC exactly.
• Usually expressed as a percentage (e.g., 110%) of the invoice value to cover the invoice cost plus notional profit.