A letter of credit (LC) can be define as a signed or an authenticated instrument issue by the buyer's banker, embodying an undertaking to pay to seller a certain amount of money, upon presentation of documents, evidencing shipment of goods, as specified and compliance of other terms and conditions.
In other words an LC is an undertaking issued by bank, on behalf of the importer or the buyer, in favour of exporter or the seller.
So if the specified documents, showing that a shipment has taken place, or a service has been supplied, are presented to the issuing bank or its nominated bank, within the stipulated time, the exporter/seller will be paid the amount specified.
Following parties are involved in LC transaction -
1. The buyer/Importer/Applicant - on whose behalf LC is opened
2. The Seller/Exporters - Beneficiary of LC
3. The Opening/Buyer bank - Who establishes the LC
4. The Advising bank (in seller country) - Agent of issuing bank & authenticate the LC
5. The confirming Bank - who undertake to pay on behalf of the issuing bank.
6. The negotiating bank - seller bank or bank nominated by the opening bank.
7. The reimbursing bank - who reimburses the negotiating or confirming bank.
Note: Advising bank, Confirming bank & Negotiating bank could be the same.
Types of Letters of Credit:
1. Revocable LC
LC which can be amended or cancelled at any moment by the issuing bank without the consent of any other party
Value of this LC is limited & very rarely issued.
2. Irrevocable LC
Which hold the commitment by the issuing bank to pay or reimburse the negotiating bank, provide conditions of the LC are complied with.
Can't be cancelled without previous consent of all parties.
Unconditional undertaking
All LCs issued, unless and otherwise specified.
3. Irrevocable confirmed LC
Which has been confirmed by a bank, other than the issuing bank, usually situated in the country of exporter
4. Transferable LC
LC which is available for the transfer in full or in part, in favour of any party other than the beneficiary, by the advising bank at the request of the issuing bank.
Here more than one second beneficiary, but such second beneficiary can't transfer to another third party.
5. "Red clause" LC
LC enable the beneficiary to avail pre-shipment credit from the nominated/advising bank.
Such LC bears a "Red Letter" authorizing the nominated bank to grant advance to beneficiary, prior to shipment of goods.
6. Sight LC
The beneficiary is able to get the payment on presentation of document confirming to the term and condition of LC at the nominated bank counters.
7. Acceptance Credit LC
Bill of exchange or draft, Payable upon acceptance, at the future date, subject to receipt of document confirming to the term and conditions of LC.
8. Deferred payment LC
Similar to acceptance credit, except that there is no bill of exchange or draft
9. Negotiation Credit LC
Issuing bank undertake to make payment to the bank, which has negotiated the document.
10. Back to back LC
When an exporter arranges to issue an LC in favour of local supplier to procure goods on the strength of export LC received in his favour.
In other words an LC is an undertaking issued by bank, on behalf of the importer or the buyer, in favour of exporter or the seller.
So if the specified documents, showing that a shipment has taken place, or a service has been supplied, are presented to the issuing bank or its nominated bank, within the stipulated time, the exporter/seller will be paid the amount specified.
Following parties are involved in LC transaction -
1. The buyer/Importer/Applicant - on whose behalf LC is opened
2. The Seller/Exporters - Beneficiary of LC
3. The Opening/Buyer bank - Who establishes the LC
4. The Advising bank (in seller country) - Agent of issuing bank & authenticate the LC
5. The confirming Bank - who undertake to pay on behalf of the issuing bank.
6. The negotiating bank - seller bank or bank nominated by the opening bank.
7. The reimbursing bank - who reimburses the negotiating or confirming bank.
Note: Advising bank, Confirming bank & Negotiating bank could be the same.
Types of Letters of Credit:
1. Revocable LC
LC which can be amended or cancelled at any moment by the issuing bank without the consent of any other party
Value of this LC is limited & very rarely issued.
2. Irrevocable LC
Which hold the commitment by the issuing bank to pay or reimburse the negotiating bank, provide conditions of the LC are complied with.
Can't be cancelled without previous consent of all parties.
Unconditional undertaking
All LCs issued, unless and otherwise specified.
3. Irrevocable confirmed LC
Which has been confirmed by a bank, other than the issuing bank, usually situated in the country of exporter
4. Transferable LC
LC which is available for the transfer in full or in part, in favour of any party other than the beneficiary, by the advising bank at the request of the issuing bank.
Here more than one second beneficiary, but such second beneficiary can't transfer to another third party.
5. "Red clause" LC
LC enable the beneficiary to avail pre-shipment credit from the nominated/advising bank.
Such LC bears a "Red Letter" authorizing the nominated bank to grant advance to beneficiary, prior to shipment of goods.
6. Sight LC
The beneficiary is able to get the payment on presentation of document confirming to the term and condition of LC at the nominated bank counters.
7. Acceptance Credit LC
Bill of exchange or draft, Payable upon acceptance, at the future date, subject to receipt of document confirming to the term and conditions of LC.
8. Deferred payment LC
Similar to acceptance credit, except that there is no bill of exchange or draft
9. Negotiation Credit LC
Issuing bank undertake to make payment to the bank, which has negotiated the document.
10. Back to back LC
When an exporter arranges to issue an LC in favour of local supplier to procure goods on the strength of export LC received in his favour.
