Letters of credit are often used in international transactions to ensure that payment will be received. Due to the nature of international dealings including factors such as distance, differing laws in each country and difficulty in knowing each party personally, the use of letters of credit has become a very important aspect of international trade. The bank also acts on behalf of the buyer (holder of letter of credit) by ensuring that the supplier will not be paid until the bank receives a confirmation that the goods have been shipped. In other words, Letter of credit, is, basing on the demand and order of the buyer (issuer/exporter), it is a commitment of a bank (issuing bank) that it will make a payment to the seller in a defined amount and within a defined maturity period, upon issuance of the documents, which are specified for the letter of credit. A Letter of credit acts as a safety net for the payment of a shipment of physical goods or completed service to the seller, in the event something unforeseen prevents the buyer from making the scheduled payments to the seller. In such a case, the Letter of Credit ensures the required payments are made to the seller after fulfilment of the required obligations.
Letter of credit processes are subjected to International Chamber of Commerce’s (ICC) example procedures and application rules related to letter of credit. The leaflet in question is binding on all parties unless otherwise indicated in the letter of credit. For letter of credit processes, banks make their transactions by taking into account not the goods but the documents. Opening of a letter of credit is determined by the sales contract. So as to meet the provisions of this sales contract, the buyer offers his own bank (issuing bank) to open a letter of credit.
Seller’s bank informs the seller about the letter of credit. Then, the seller loads the goods and via his intermediary bank sends the documents, which are supposed to be issued in accordance with the letter of credit, to the issuing bank. Providing that the documents issued are in line with the letter of credit terms, it’s the bank that makes the payment to the seller. By collecting the cost from the issuer, the bank which has opened the letter of credit, delivers the documents in order to clear the goods from the customs. Letter of credit is a reliable payment method as, on condition that the beneficiary meets all the requirements of the letter of credit and issues all the required documents thereof, as the issuing bank has to fulfill its obligations relevant to payment to the beneficiary, this method is very safe for the latter. This method is very safe for the issuer as he knows that he will not have to make any payment to the beneficiary against improper documents.
Letter of credit can be opened as confirmed or unconfirmed. Confirmed letter of credit is opened when the seller cannot do with only the guarantee of the issuer's bank, he also wants to get another bank’s guarantee either in his own country or another. Confirmation for a letter of credit by a bank means the exact commitment of the confirming bank along with the commitment of the issuing bank on condition that the required documents to the confirming bank or other authorized bank are issued. For an unconfirmed letter of credit, it is only the issuer’s bank that has the irrevocable commitment against the issuance of the proper documents.
There are 4 types of Letter of Credit: Revolving Letter of Credit, Red-Clause Letter of Credits, Standby Letter of Credit and Transferable Letter of Credit. Since letters of credit are subjects that require expertise, it is important to receive this service by experts in the field. Therefore, you can always get in touch with us to get information about the Letter and support on this subject.
Unal&Partners Legal Team
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