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Documentary Letter of Credit

Info: 1361 words (5 pages) Essay
Published: 3rd Jul 2019

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Jurisdiction / Tag(s): International Law

Every business transaction consist of at least two parties that are the importer and exporter. In addition, some of the transactions involve not only the buyer and seller, but also the banks of the parties, government customs agencies and freight forwarders as well. Profiting from the transaction and being exposed to the smallest risk are the common concern of both parties. However, in all transactions buyers and sellers exposed to the risk somehow. Domestic transactions are stable, transparent, secure or reliable as compared to international transactions that are risky because of changing dynamics at the time of sale and expected time of payment. Therefore, the seller always prefer to be paid at delivery or prior to it. The seller has made investment in the time of manufacturing the product and does not prefer bearing the cost of transportation as well. On the other hand,the buyer aware of the fact that it can take one or two months before goods had arrived. Goods will be ready for export, trucked or sent by rail to the port, export cleared, shipped to the final port, warehoused awaiting customs clearance, inspected, customs cleared, sent overland to the final destination, and finally became inventory at warehouse of buyer Therefore, both buyer and seller prefer that other party finance the transaction and pay for the cost.

Domestic payments primarily use credit cards and checks.International payments primarily use Commercial Letters of Credit and Documentary Collections or open account.

Trade can be defined as the exchange of tangible goods or services between a seller and a buyer in another country for payment. United Nations Convention on Contracts for the International Sale of Goods stands for regulating international contracts about sale of goods by emphasing payment conditions as well. International transaction payment terms depend on the relationship between the seller and the buyer, the nature of merchandise, norms of industry, the distance between parties, the potential for currency fluctuation, and economic and political stability in the countries. Also, there are number of other factors that directly affect proper receipt of payment, including lost or damaged goods, default of the buyer and of course the broad area of contractual dispute as insurance cover for some of the risks. All of these factors must be taken into consideration before deciding on a method of payment that is acceptable to both parties. The method of payment is the means that describes how money will be paid and the exporter has different options with varying degrees of security. The most common methods for international transaction are letter of credit, documentary collection, open account and cash in advance. Open account can be least risky fort he expoter that is followed by bills of exchange, documentary letter of credit and as a most secure cash in advance method. The trader has to make a choice as appropriate terms and method of payment right at the beginning of the process.

Cash in advance type of payment method requires that the buyer pay to the seller before the shipment of goods ordered in cash in advance type of payment method. It provides greatest risk for the buyer if the seller do not comply with all the terms of the contrct.If the goods are delayed or inferior quality, the buyer take legal action on the basis of sales contract.This payment method requires that the buyer have a high level of confidence in the ability and willingness of the seller to deliver the goods as ordered. Therefore, cash in advance provides the seller with the most security but leaves the buyer at great risk. This type of payment constitutes a small proportion of payments made in international transactions.

documentary (letter of) credit

A documentary letter of credit is bank’s promise to pay a seller on behalf of the buyer as long as the seller complies with precisely defined terms and conditions specified in the credit. Parties of the transaction are applicant, beneficiary and assurance of payment.Applicant is the buyer of goods, beneficiary is the seller of goods and assurance of payment is the bank that substitiues its credit for that of the buyer. minimum terms, conditions and information that is needed to be agreed upon between the Applicant and Beneficiary for the Applicants bank to issue the Credit to the Beneficiary.



SWIFT authenticated message issue of documentary Credit (Type 700)

27: Sequence of total 1/2

40A: Form of documentary credit: IRREVOCABLE

20: Documentary credit number 1234567

31C: Date of issue 9 OCT 00

31D: Date and place of expiry 6 NOV 00 LOS ANGELES CALIFORNIA




A documentary letter of credit provides almost equal security to both the buyer and the seller. The bank assumes the payment responsibility for the buyer, thereby placing the credit standing of the bank between the seller and the buyer. With use of a letter of credit, buyer and seller do not communicate directly. The bank(s) act as intermediary(ies) between the two.

Letters of credit are the most common form of international payment because they provide a high degree of protection for both the buyer and the seller. The buyer specifies certain documents (including a title document) from the seller before the bank is to make payment, and the seller is assured that payment will be received after the goods are shipped so long as the specified documents are provided.

documentary collections

Bills of exchange is also referred as documentary collections.The security that bills of exchange offer is based on the fact that the procedures involve the banks in arranging for collection of payment from buyer on behalf of the seller. It is less costly and easier to use than a documentary letter of credit. A documentary collection is similar to an international cash on delivery (COD). The seller ships goods to the buyer but sends the documents, including the bill of lading (title document), through the banks with instructions to release them to the buyer only upon payment. When the buyer obtains the title documents, he has the right to take ownership of the shipment. There are three documentary collection types. IIn documents payment D/P the bank show documents to the buyer and collects money. Documents acceptance D/A the bank present documents to the buyer and gets acceptance or note in line with cash payment. Clean collection, the bank presents a draft without transport docıuments for payment.

Like letters of credit, documentary collections focus on the transfer of title documents to goods rather than on immediate transfer of the goods themselves. However, unlike letters of credit, banks involved in the transaction do not guarantee payment but act only as collectors of payment. It is simple and inexpensive compared to a letter of credit. Also, it often provides faster receipt of payment than open account.

Open account can be categorized as least secure method of payment and it is only used in regularly in low risk markets. The buyer agrees to pay for the goods within a designated time after the shipment, usually in 30, 60, or 90 days.Therefore, the seller is totally depedent on the buyer paying at the agreed time. Buyer’s cheque, banker’s draft and international transfer are the ways in which payments might be transferred. It provides the buyer with greatest security and flexibility. There is greatest risk for seller that the buyer can not comply with the terms of of the contract and payment. Open account terms are less common in international trade as compared to domestic trade.

International Payment Methods – Recommended Terms and Conditions for Payment.


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International law, also known as public international law and the law of nations, is the set of rules, norms, and standards generally accepted in relations between nations. International law is studied as a distinctive part of the general structure of international relations.

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