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Business Law Assginment : Letter Of Credit

Terminology The English name letter of credit derives from the French word accreditation, a power to do something, which in turn is derivative of the Latin word accreditivus, meaning trust. This applies to any defense relating to the underlying contract of sale. This is as long as the seller performs their duties to an extent that meets the requirements contained in the letter of credit

Definition Letter of Credit (LOC, L/C, LC) is a document, consisting of specific instructions by a buyer of goods, that is issued by a bank to the seller who is authorized to draw a specified sum of money under certain conditions, i.e., the receipt by the bank of certain documents within a given time. Letters of credit deal in documents, not goods. A sight Letter of Credit means that payment is made immediately to the beneficiary/seller/exporter upon presentation of the correct documents in the required time frame. A time or date Letter of Credit will specify when payment will be made at a future date and upon presentation of the required documents.

There are 2 basic types letter of credit: a) Documentary Letter of Credit can be revocable or irrevocable. An irrevocable Letter of Credit provides guarantee by the issuing bank in the event that all terms and conditions are met by the buyer (or drawee). A revocable Letter of Credit can be canceled or altered by the drawee after it has been issued by drawee's bank. Charges for each type will also vary. However, the more the risk by guaranteeing payment, the more the charge will likely be for providing the service. b) Standby Letter of Credit is a payment or performance guarantee used primarily in the United States. They are often called non-performing letters of credit because they are only used as a backup should the buyer fail to pay as agreed. Thus, a stand-by letter of credit allows the customer to establish a rapport with the seller by showing that it can fulfill its payment commitments.

Participants in LC Process Buyer Issuing Bank Advising Bank Seller (Beneficiary)

Documents that can be presented for payment To receive payment, an exporter or shipper must present the documents required by the letter of credit. Typical types of documents in such contracts might include : Financial Documents Commercial Documents Shipping Documents Official or Legal Documents Official Documents : License, Embassy legalization, Origin Certificate, : Bill of Exchange, Co-accepted Draft : Invoice, Packing list : Transport Document, Insurance Certificate, Commercial,

Inspection Certificate, Phytosanitary certificate Transport Documents : Bill of Lading (ocean or multi-modal or Charter party),

Airway bill, Lorry/truck receipt, railway receipt, CMC Other than Mate Receipt, Forwarder Cargo Receipt, Deliver Challan and etc Insurance documents : Insurance policy, or Certificate but not a cover note

Procedure Procedure for Administration of Standby Letters of Credit: Step 1 : The Sales and Credit Departments agree that a standby letter of credit is necessary prior to communicating financial terms to the customer. Step 2 : The Credit Department will communicate the standby letter of credit terms to the customer. If a domestic letter of credit, an advising bank is not necessary; if an international letter of credit, an advising bank is necessary and thus, Credit will request that it be (name) Bank. Step 3 : Should the issuing bank's financial viability be unknown, the Credit Department will contact (name) Bank for a credit inquiry. Step 4 : Once the advising bank confirms the adequacy of the standby letter of credit and the financial viability of the issuing bank, the Credit Department will inform Sales and Traffic.

Step 5 : Sales may ship the goods. However, prior to each shipment, Sales must inform the Credit Department of the total value of the goods to ensure that it does not exceed the protection allotted by the standby letter of credit. Credit and Sales should pay close attention to multiple shipments so that at no time does the credit exposure exceed the amount stated on the standby letter of credit.

Procedure for Administration of Irrevocable Documentary Letters of Credit Step 1 : The Sales and Credit Departments agree that a irrevocable letter of credit is necessary prior to communicating financial terms to the customer. Sales and Credit must also agree whether to require an irrevocable confirmed or unconfirmed letter of credit. Step 2 : The Credit Department will communicate the letter of credit terms to the customer, forward a letter of credit checklist to the customer and try to select the issuing bank. Selecting the issuing bank is not always possible. The Credit Department will also request that the customer forward a copy of the letter of credit on receipt. The customer generally receives its copy before our advising bank. Getting an early copy allows all parties at (your company) to begin the review process. Step 3 : The customer arranges with its bank for the issuance of the letter of credit. Step 4 : The issuing bank sends copies of the letter of credit to the customer and to our advising bank. Both, the customer and our advising bank will send a copy to the Credit Department. Step 5 : Once the Credit Department receives a copy of the letter of credit, it will send copies to Customer Service Representatives, Sales, and Traffic within one business day of receipt. Traffic personnel will forward the letter of credit to the forwarder. In addition, the Credit Department will log the letter of credit in the Letter of Credit Database. Step 6 : Credit, Sales, and Traffic will review the letter of credit looking for necessary amendments within one day of receipt. Reviewing parties will forward all amendments to the Credit Department via Fax or Email. A Fax or E-mail is still necessary should Sales or Traffic require no amendments. Step 7 : If amendments are necessary, the Credit Department will forward all required changes to the customer. Should the necessary amendments lie outside Credit's realm of expertise, it will seek the needed assistance from other areas within the Company. If the customer agrees, it will forward requests to its issuing bank, whom in turn will forward an amended letter of credit to our advising bank. Our advising bank will fax a copy of the amended letter of credit to Credit, who in turn will

send it to Sales and Traffic. Credit, Sales, and Traffic will review the amended letter of credit to ensure no additional changes are necessary. When making amendments and reviewing an amended letter of credit, it is important to keep the letter of credit's expiration date in mind. Credit should approximate the number of days taken up by the amendment process and amend the expiration date by the same number of days. Step 8 : If no changes are necessary, all the affected parties approve the amended letter of credit by notifying the Credit Department of the approval via Fax or E-mail within one day of receiving the amended letter of credit. If changes are necessary, go back to Step 6. Once the Credit Department receives the approval notifications from all parties, it will immediately advise all parties affected that the letter of credit has been approved. Step 9 : Sales sends a copy of the amended letter of credit to the plant with instructions to ship the product to the customer. Sales will do this on the same day it receives the notification from the Credit Department confirming that the amended letter of credit is acceptable. Step 10 : The Freight forwarder and Traffic Department ship the material and send all the documentation required in the letter of credit along with a draft for payment to our advising bank via overnight express courier. Step 11 : Our advising bank reviews all documentation to ensure that it complies with the letter of credit's requirements. If there are any correctable discrepancies, the advising bank will correct them. It is important to note that your advising bank may charge you for each discrepancy found and corrected. If there are non-correctable discrepancies, our advising bank will try to get the customer to waive them. However, getting the customer to waive non-correctable discrepancies is no guarantee that the issuing bank will agree to the changes. This is especially true if the financial condition of the customer deteriorates. The advising bank's review process should take three days or less. Step 12 : Our advising bank forwards all the documents to the location specified in the letter of credit, which is usually the address of the issuing bank. Step 13 : The issuing bank honors the letter of credit and forwards the funds to our advising bank. Should the issuing bank not honor the letter of credit, it must tell our advising bank why. Step 14 : Our advising bank will credit our account minus applicable fees. All advising fees are absorbed by the division making the sale. The advising bank will contact the Credit Department stating whether or not payment has been received. Should the issuing bank refuse to honor the letter of credit, we (seller

company) are still responsible for associated fees. The issue of who will pay for the associated fees should be resolved prior to accepting the letter of credit. The Buyer and the Seller should all be in accord. Although the seller typically pays for advising fees, all fees are negotiable.

Web References : http://en.wikipedia.org/wiki/Letter_of_credit http://www.teachmefinance.com/Financial_Terms/letter_of_credit.html http://www.crfonline.org/orc/ca/ca-10.html http://www.ec-finance.com/site/about_lcs/letter_of_credit_process.htm http://www.sovereignfunding.com/Letter-of-Credit.html