LETTER OF CREDIT

Letter of Credit business is a profitable business for the bank, as it does not involve deployment of funds. However it is often observed that this business, if not conducted in a proper manner, results in devolvement of LCs thereby leading to irregularity and the account becoming NPA with the passage of time. Against this background, it is felt that proper guidelines should be in place to minimize devolvement of LCs and arrest the incidence of NPA s due to such devolvement. Letter of credit established by commercial banks facilitate free flow of international trade. If the seller and the buyer of goods are located in two different countries, the seller runs the risk of non-payment of the value of the goods by the buyer unless, of course, such payment is made in advance. Usually payment is effected by the buyer only on arrival of goods at his place or city and, in many cases; credit period of a few months ranging up to 6 months is afforded by the seller to the buyer for payment. To protect the seller, the buyer is generally required to open L/C through his bank, by this process, the bank guarantees the seller that payment will be made by the buyer and on his failure, the bank will make payment subject to certain conditions. The mechanism of LC is well recognized and employed in international trade. In India LC is resorted even for trade within the country for two basic reasons: Seller sometimes would not have the means of finding out the credit worthiness of a buyer or the buyer needs time to make payment after receipt of goods. With widespread use of LC there arose a need to have internationally accepted rules and conventions to govern LC. Thus International Chamber of Commerce (ICC) the apex self-regulatory body of trade and business world wide has laid down rules governing LC called Uniform Customs and Practices for Documentary Credits (UCPDC). This document has been undergoing periodical revisions and the current version is UCPDC- 600 valid from July 2007. These rules apply to all LC, provided the LC explicitly states that it will be governed by UCPDC. Every LC normally has such a provision. The mechanics of opening LC and discounting/negotiating documents under LC involves many steps/precautions to be taken.

METHODS OF PAYMENT
By agreeing to buy goods from the seller (exporter), the buyer (importer) undertakes to pay for them on delivery or otherwise agreed in the sales contract. This payment obligation forms part of the sales contract itself. In order to perform its payment obligation towards the seller, the buyer concludes legally separate agreements with its bank. The main methods of payment used for export sales: 1. 2. 3. 4. ADVANCE PAYMENT OPEN ACCOUNT DOCUMENTARY COLLECTIONS DOCUMENTARY CREDITS

ADVANCE PAYMENT A buyer may make payment to a seller in advance, before the goods are shipped. The reasons for adopting this method may be summarized as follows: 1. The seller may be unwilling to ship goods to the country of the buyer for reasons of country risk. 2. The buyer may wish to encourage the seller into a long-term trade relationship. 3. The seller may not have finance to buy or prepare the goods for shipment. 4. They buyer feels comfortable with its relationship with the seller and with credit and country risk.

OPEN ACCOUNT When business is conducted on open account terms, the seller dispatches goods to the buyer and at the same time sends the importer an invoice for payment (and other appropriate documents) at an agreed date or at the end of an agreed period. A typical example of an agreed period is for payment to be made at the end of the month following the month of shipment. The buyer makes arrangements to pay on the relevant date according to the terms of the agreement, and for this purpose may use any appropriate payment method, such as an international bank transfer or a cheque.

Open-account trading is most commonly used in situations where the two companies concerned know each other well and have long-established trading relationship. Sales, for example, between sellers and buyers in countries in Western Europe and the USA are often conducted on this basis. In some cases exporters also use the procedure as a way to secure contracts with parties in a number of developing countries where Documentary Credit terms have applied in the past. Open-account trading offers several advantages. In particular, it is simple to administer and involves few banking fees or other costs. The system is particularly attractive to buyers because it affords them the opportunity of examining the goods before they have to make payment. Sellers using open-account methods obtain no security for payment and have to rely entirely on the creditworthiness and good faith of the buyer. This may be contrasted with the situation under Documentary Credits and documentary collections in which the exporter obtains the security of a bank undertaking or retains control of the documents relating to the merchandise. The only involvement by banks in open-account trading is in the transfer of funds from buyer to seller.

DOCUMENTARY COLLECTION In a documentary collection the seller ships the goods to the buyer in the importing country. At the same time it hands over to its own bank documents relating to the goods and their shipment. Examples of common documents are bills of lading, commercial invoices, cargo insurance policies and certificates of inspection. The bank forwards these to a correspondent bank in the buyers country which undertakes to handle the documents in accordance with the instructions of the seller as instructed by the sellers bank. Under this procedure the banks channel the documents but they do not give any payment undertaking themselves. This device offers less security than a Documentary Credit, but, in return, the costs are lower. The system nonetheless gives the seller a measure of security for payment. The sellers interest is best served where the buyer is not able to obtain possession of the goods without the presentation of shipping documents that are sent through the banking system by the seller.

The full security of a documentary collection applies only if the transport document is a negotiable bill of lading or if the goods are consigned to the bank in the importing country with the consent of that bank. If the seller has agreed to supply the goods on short-term credit, it can stipulate that the documents to be handed over against the buyers acceptance of a bill of exchange or signature on a promissory note. The seller may be able to discount the bill or note in return for an immediate payment. The International rules governing collections are the International Chamber of Commerce Uniform Rules for Collection, Publication No.522.

DOCUMENTARY CREDITS Documentary Credits structure provides the seller with an independent bank undertaking of payment. The buyer, on the other hand, knows that payment will not be made unless the seller presents documentary evidence covering the goods and their shipment.

MECHANICS OF DOCUMENTARY CREDIT

CONTRACT GOODS IMPORTER DOCS SHIPPING COMPANY GOODS DOCS EXPORTER

OPEN CREDIT OPENING BANK

ADVISING/

DOCUMENTS PAYMENT

NEGOTIATING

DOCUMENTS PAYMENT

BANK

DOCUMENTARY CREDIT PROCEDURE

The Buyer and Seller conclude a sales contract providing for payment by a Documentary Credit (DC). The Buyer instructs his bank (the Issuing Bank) to issue a DC in favor of the Seller (Beneficiary). The Issuing Bank issues the DC and asks another bank (the Advising Bank), usually in the country of the Seller to advise or confirm the DC. The Advising Bank informs the Seller that the DC has been issued. As soon as the Seller receives the DC and is satisfied that it meets the terms of the sales contract and that he can meet the DC terms and conditions, he is in a position to effect shipment. Seller then sends the required documents to the bank where the DC is made available (the Nominated Bank). The bank examines the documents against the DC. If they meet the requirements of the DC, the bank will pay, accept or negotiate, according to the terms of the DC. The bank takes up the documents sends the documents to the Issuing Bank. The Issuing Bank examines the documents and if the documents meet the DC requirements, reimburses in the pre-agreed manner the Confirming Bank or any other Nominated Bank that has paid, accepted, or negotiated under the DC. When the documents have been examined by the Issuing Bank and are found to meet the DC requirements, they are released to the Buyer. The Issuing Bank obtains reimbursement from the Buyer in the preagreed manner. The Buyer forwards the transport document to the local office or agent of the carrier who will then effect delivery of the goods to him.

Documentary credit is an Arrangement (Irrevocable Undertaking) by a bank ..Issuing Bank On behalf of its customer --------------Applicant

Assuring payment of a certain amount ------ LC amount To the seller of the goods Beneficiary Against presentation of documents stipulated therein: Provided that the terms and conditions of the Credit are complied with. It is like a conditional guarantee the condition is submission of documents stipulated in the LC So any arrangement, that is irrevocable, thereby constitutes a definite Undertaking of the issuing bank to honor a complying presentation. ARTICLE 2 OF UCP.. 600

DEFINITION
A LC is a written undertaking by a bank (issuing bank) acting at the request and on the instructions of its customer (the applicant or the buyer of goods) or on its own behalf whereby the issuing bank: 1. Is to make a payment to or to the order of a third party (the beneficiary or the seller of goods) or is to accept and pay bills of exchange (drafts) drawn by the beneficiary or 2. Authorizes another bank to effect such payment or to accept and pay such bills of exchange or 3. Authorizes another bank to negotiate against stipulated documents provided that the terms and conditions of the credit are complied with.

BANKS INVOLVED
1. THE ISSUING BANK: (IB) acts on behalf of the buyer or applicant. 2. ADVISING BANK: advises the LC on behalf of IB. The advising bank authenticates the validity of LC, but has generally no commitment to pay the beneficiary. 3. NOMINATED BANK: Another bank (usually at the place of the beneficiary) called the nominated bank which is authorized by the IB to pay under the LC. If no bank is specified, any bank chosen by the beneficiary could be the nominated bank. This bank is only a conduit (medium) for IB and does not incur any other liability. 4. CONFIRMING BANK (CB) again at the place of beneficiary, which confirms i.e. guarantees unconditionally the LC. For the beneficiary, CB becomes virtually IB. The services of CB are usually sought by beneficiaries in respect of LC issued by banks whose credentials are not known to or are poor in the eyes of the beneficiary. 5. REIMBURSING BANK In respect of foreign currency letter of credit, reimbursements must be provided to the negotiating banker from a bank where we maintain our Nostro account. For example, if an USD Letter of Credit has been opened in favor of a Japanese seller, the Letter of Credit should provide for reimbursement from any banks Nostro account maintained in USA. DIFFERENT TYPES OF REIMBURSEMENT INSTRUCTIONS ARE: 1. In reimbursement of negotiation under this credit, you are authorized to debit our Nostro account No..maintained with you. 2. In reimbursement of negotiation under this credit, you are authorized to claim the negotiated amount together with charges if any from our Nostro account Nomaintained with..who have been authorized to honor your claim under the Letter of Credit. 3. In reimbursement of negotiation under the credit, we will arrange to cover you in the currency of Letter of Credit as per your instructions on receipt of complied documents under the credit. 4. Upon receipt of documents under the credit, we cover you under ACU mechanism as per your instruction.

5. Reimbursement will be arranged through ACU mechanism as per your instruction on receipt of complied documents under the credit.

BASIC ASPECTS TO BE OBSERVED IN ISSUING LC s BASIC PRINCIPLE

The basic aim / principle of a LC is to facilitate orderly movement of trade. It is, therefore, necessary that the evidence of movement of goods is established (documentary in nature) i.e. LCs are to be issued only for genuine trade transactions. LC is a non fund based business for the bank and contingent in nature. In the absence of any documents representing movement of goods, such LCs are known as Clean LCs. Normally banks do not establish Clean LCs.

ELIGIBILITY
Branches should ascertain the means, creditworthiness and standing of the applicant for LC who should normally be a constituent and whose account has been satisfactorily operated. Normally, the applicant is expected to confine his dealings only with the Bank. In terms of Reserve Bank of India guidelines, Banks are prohibited from issue of LCs on behalf of non-borrower constituents who do not enjoy credit facilities with them. Accordingly, we should not extend any non-fund based facilities or additional / ad-hoc credit facilities to non-constituent borrower or non constituent member of a Consortium / Multiple Banking Arrangement. We should not discount bills drawn under Letters of credit or otherwise for beneficiaries who are not our borrower constituents. However in cases where the customers maintain accounts with us and have no credit facilities from the banking system they can be sanctioned facilities on a sole banking basis after due assessment and such facilities can be funded facilities or non-funded facilities or both. For risk mitigation the bank can stipulate financial collateral or non-financial collateral as it deems it fit. Further, financial collateral can also be up to 100% cash.

PURPOSE

LCs are established for procuring raw material (domestic / imported). At times, LCs are required to be issued for import of machinery / spare parts and consumables and for other payments.

ASSESSMENT
Need / necessity of LC facility and the quantum of LC required is to be assessed precisely. The need for LC requirement is to be assessed based on the industry trends. i.e. whether the raw material is generally procured on LC terms or otherwise should be ascertained. The assessment should cover the liabilities of the applicant to the Bank and also to third parties, the means by which the applicant is expected to meet his commitment after the bills under the LC are received, the margin the applicant is to deposit with the Bank and details of other securities he is offering to the Bank.

THE ASSESSMENT OF LC TO BE ISSUED (LIMIT TO BE SANCTIONED) SHOULD FURTHER BE BASED ON

a.) Approximate total value of purchases to be made in the next 12 months
on LC basis and whether the level of inventory is commensurating with industry norms / past trends. b.) Usance period (i.e. Credit terms) of the LC having relation to the working capital cycle. c.) Lead time (i.e. time required for transportation of goods / material). d.) LCs for purchase of machinery / capital goods backed by borrowers own funds or firm sanction of term loan. e.) The LCs issued / limits being sanctioned are commensurating with the borrowers turnover and cash credit limits and the same are for genuine trade or manufacturing activity. While assessing the future requirements, the past / actual trends with regard to value / amount of raw material procured on LC basis, and also the lead time, may be kept in view.

SECURITY
i) ii) Stamped Application cum indemnity from the borrower in respect of every LC. Charge over the assets procured under LC. 9

OTHER CHARGES
Since LCs are normally established for our regular customers, it is desirable to insist that existing charges (i.e. pertaining to all current assets, collateral security etc.) should also cover the LC limit.

MARGIN
Borrowers margin is the most important aspect with regard to conduct of LC business. Under normal conditions, it is desirable to stipulate 25% margin. However, based upon genuine considerations, a lower margin can be stipulated on a case to case basis and depending upon past record of timely retirement of bills under LC. Applicants means, creditworthiness, his other liabilities , etc. to be kept in view and wherever warranted, a lien may be maintained on the unutilized portion of the cash credit account for the bills to be received under the LC.

NOTE
In cases where the lien has been earmarked for the outstanding usance LC bills against advance value of stocks, cash margin against such LCs will be added back to advance value of security.

COMMISSION AND OTHER CHARGES:

Refer charges as enclosed in the circular.

NO LETTER CONCERNS

OF

CREDIT

FOR

SISTER

Where the opener and the beneficiary are sister concerns or are otherwise linked, there should ordinarily be no need for LCs. No Letter of Credit should be opened favoring any associate / sister concern of the applicant (i.e. Borrower Company) unless specifically approved by the sanctioning authority.

10

 Branches should ensure that LCs do not serve as a means of kite flying between the applicant and the beneficiary. Branches to invariably ascertain the standing of the beneficiary. A declaration should invariably be obtained from the borrower certifying that the beneficiary of the LC is not an associate / sister concern . Delivery against acceptance (D/A) facilities should be granted only to applicants of undoubted standing and where the security available is much more than the value of the LC. LCs permitting payment against documents which do not confer on the Bank a full and undisputed title to the relative goods: e.g., transport documents of an unapproved transport agency Or incomplete set of documents of title to goods made out to the order of the applicant should be treated as clean credits and should not ordinarily be issued. Suitable insurance instructions safeguarding the Banks interest in the goods, on warehouse to warehouse basis, should be invariably incorporated. In cases where insurance is obtained by the applicant, suitable cover notes should be obtained at the time of opening of the LC in the joint names of the Bank and the applicant and the cover notes and the insurance policies thereafter should be deposited with the Bank.

REVOLVING LETTERS OF CREDIT

Opening revolving letters of credit (RLC) requires greater care. The validity of such LCs should not be for more than one year and the value of the LC should be based on the value of material the borrower needs for his genuine manufacturing/trading requirements during this period. A special limit for the revolving amount should invariably be stipulated. For example, if the total LC is for Rs.10 lacs and it is expected to revolve 10 times, the outstanding liability at any one time should not be for more than, say, Rs.1 lac. The sub-limit of Rs.1 lac will be restored only after the beneficiarys bank receives the Banks advice that the earlier bill(s) for Rs.1 lac has been paid.

11

 However, RLC facility should only be sanctioned by an authority of the level of HOCC-II and above under the sanctioned limits.

The application-cum-Counter Indemnity form should be adequately stamped as an agreement. It should be ensured that the application for LC does not contain any contradictory clause or any condition/clause impossible to fulfill and one which violates the laws of the country. It should be ensured that the LCs are issued on the prescribed Standard Formats only. LCs issued should be entered in the LC Established Register, the LC Liability Register and Trade Finance Package wherever provided . The application-cum-guarantee form after issue of the LC should be kept in the strong room/fire proof safe and in the custody of the authorized officials. LCs should be serially numbered and issued on the Security Forms meant for the purpose. LCs (including amendments to LCs) should be signed by two authorized officials, when they are issued for amounts of Rs.50000/- and above. Opinion reports should be obtained on the supplier (i.e. beneficiary) from his banker for high value LCs, say, Rs.10 lacs & above. The line of activity, place of business may also be enquired into, to satisfy about the genuineness of the transaction. The report from the bankers should inter-alia mention as to whether the seller (beneficiary of LC) is ordinarily engaged in purchase / sale / manufacture of the item / raw material being procured. The documents that must accompany the bill under the LC may be specified (delivery challan, sales tax registration, LR/RR, Excise Gate Pass, Bill of Exchange, Commercial invoice, Certificate of Origin, Certificate of Inspection / quality and other standard document ). It must be ensured that the date of dispatch of goods should be after the date of opening of LC. However, where warranted documents prior to date of LC may be permitted with prior approval of Controlling Authority.

12

The borrower may be advised to indicate separately the value of stock under the LCs with full particulars like LC No. Invoice No. etc., in the monthly stock statements and it should be monitored at the time of inspections as to whether there has been real movement of goods or not. For high value LCs, say more than Rs. 5.00 crores per bill, branches should endeavour to inspect within a day or two of the receipt of goods or during periodical inspection as stipulated by sanctioning authority, To satisfy that there has been actual movement of goods and the goods are in conformity with their description in the LC. Bank would not open LCs and purchase / discount / negotiate bills bearing the without recourse clause. The General Manager (C&IB) are vested with powers to permit considering negotiation of bills drawn under LC under without recourse on case to case transaction basis. Where regular bills discounting drawn under LC limits are to be sanctioned under without recourse basis, the proposals are to be submitted to HOCC-II and above for sanction. Clean LCs (i.e. not backed by documents) should not be opened / established as a rule, unless specifically permitted by the sanctioning authority.

ONEROUS CLAUSES
At the time of opening LCs, branches should incorporate the Banks standard clauses and avoid accepting onerous responsibility detrimental to the Banks interest. In case any special terms involving onerous responsibility for the Bank are proposed by the applicant or the beneficiary, the same would need to be cleared by the concerned Controlling / Sanctioning Authority. Foreign LCs should be opened as per the provisions of Exchange Control regulations / UCPDC. In case of import LCs, it should also be ensured that the import licenses issued (wherever applicable) are in the name of the applicant.

13

BEFORE LCS FOR PROCURING MACHINERY CAPITAL GOODS ARE ESTABLISHED, IT SHOULD BE ENSURED THAT
a) Requisite approval from RBI / FIPB etc. are in place (in case of imported machinery.

b) The term loan(s) has (have) been sanctioned by the Banks/FI s to meet the liability of LC on due date. If the MTL is not sanctioned by the Bank, a commitment letter / letter of comfort from the term lending institution / Bank to be obtained, undertaking that they will remit adequate funds to meet the bills received under the relative LC. c) The terms of sanction should permit opening of LC for import of capital goods. If not, prior approval from sanctioning authority to be invariably obtained. In case LCs are required to be opened / established against the letter(s) of comfort of other banks (in respect of consortium advances) the necessary approval from the competent authority should be obtained. Similarly, prior approval of the competent authority should be obtained in case local (same station) LCs are required to be established on behalf of our constituents. Letters of Credit are essentially instruments that provide comfort to the seller in a commercial transaction and facilitate availment of sundry credit from the market. Letters of Credit give ones borrowers the option of availing credit directly from the market, when the cost and conditions of credit from the market are more advantageous and hence preferable to fund based Bank finance. It is therefore necessary, while sanctioning a borrower, the facility of letters of credit, that aggregate of fund based working capital finance and the LC facility is commensurate with the projected build up of chargeable current assets.

14

The requests received from non-constituent borrower or/and non constituent member of a consortium / multiple banking arrangement for opening of LCs should not be accepted.

The only exception to this prescription is that the requests received from Govt. / Research / Defence / Educational Organizations and other statutory organizations, who are not having any regular borrowing arrangements with any FI / other banks. Customs duty to be excluded while assessing import LC limit. Separate limits are to be assessed for demand & Usance LCs In case of usance LCs, the period of usance should have a reasonable relation to the working capital cycle. In case of sick / weak units requests for usance LC facility should be examined with greater care. The value of goods received under outstanding usance LCs should be deducted from the Advance value of stocks while arriving at the DP. In exceptional case, it may be deducted from the Market Value of stocks, with the prior approval of Sanctioning Authority not less than ROCC / ZOCC. The credit available through usance LCs should be built into the level of sundry creditors assumed while assessing the working capital limit. LC providing for payment against documents which do not provide a clear title to the Bank against the goods covered under LC (transport document of an unapproved transport agency or incomplete document of title to goods made out to the order of the applicant) should be treated as clean and should not ordinarily be issued. The transit insurance (warehouse to warehouse) should indicate Banks interest in the goods. Obtention of Cash Flow Statements at the time of opening of Letters of credit is not obligatory in accounts where LC limits have been sanctioned and devolvements are not persistent. However, where considered necessary the cash budget should be obtained to examine the feasibility of timely retirement of bills as in case of adhoc limits and wherever evolvements are of persistent in nature.

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DIFFERENT TYPES OF LC
1. CLEAN OR DOCUMENTARY
Clean LC is one where no documents need to be tendered by the beneficiary. In other words, the underlying transaction would be one of a loan granted to the beneficiary by the applicant. Normally banks do not establish clean LC. The underlying principle is that LC should facilitate orderly movement of goods and hence it is essential that evidence of movement of goods is present, usually documents of title to goods.

2. IRREVOCABLE LC
Irrevocable LC cannot be amended or cancelled without the consent of the beneficiary, once issued. Thus, there is a firm assurance to the beneficiary that payment will be made, if the conditions of the LC are fully complied with. If the LC does not clearly indicate whether it is revocable or irrevocable it is deemed to be irrevocable.

3. SIGHT OR ACCEPTANCE
Sight credits are payable against drafts drawn on the paying (issuing / confirming) bank at sight i.e. immediately after documents are checked and found to be in order. Acceptance LC in effect provides for credit period to be extended by the beneficiary to the applicant. Thus, the drafts are usance drafts under which the issuing bank accepts the draft on being tendered and undertakes to pay after some time. Acceptance credits are also called usance LC. It is in these types of LC, Issuing bank runs the highest credit risk. 16

It is always preferable to verify the credit worthiness of the beneficiary Agencies such as Dun & Bradstreet. IB would have virtually given an unsecured advance to the applicant by opening usance LC. PRECAUTIONS-USANCE LC Usance LC in favor of a locally based beneficiary i.e. the applicant and the beneficiary located in the same city. This method has been used by many unscrupulous businessmen to get funds from the banking system through LC.

4. REVOLVING CREDITS
Revolving credits are intended to finance repetitive supplies of goods at certain intervals of time, by the seller to the buyer under a single contract or multiple contracts under continuing relationship. Such credits usually contain two special clauses: a. The cumulative drawings permitted under the LC. b. To elaborate, a revolving credit may be for Rs.1 crore, valid for one year. If the parties intend that there should be monthly supplies of Rs. 1 crore every month, cumulative drawings under the credit throughout the validity period of 1 year should be limited to 1 X 12 i.e. Rs. 12 crores. c. The manner in which the amount of the LC can revolve or be reinstated. Unless otherwise stated, the amount of LC will revolve automatically i.e. on the beneficiary tendering documents for RS. 1 crore in the above example to the issuing bank, fully complying with the terms of the credit, the next minute the beneficiary could tender another set of documents for Rs. 1 crore. It is therefore, customary to stipulate that the amount of the credit will be reinstated only on the earlier bills/ drafts being paid by the applicant and the beneficiary getting an advice to that effect from the Issuing bank. Revolving LC for imports are not permitted in India.

5. RED AND GREEEN CLAUSES

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Red clauses (indicated in red ink) authorizes the advising /confirming bank to advance a part of the LC amount to the beneficiary to meet manufacturing and processing expenses. This is in the form of packing credit advance but the risk is entirely borne by the Issuing bank. Usually, the seller has to acknowledge the receipt of the payment and give an undertaking to present the documents before the validity period the LC expires. And the advance, with interest is recoverable from the LC proceeds. Red clause LC is not permitted to be opened in India. Green Clause is mainly used in the wool trade with Australia and New Zealand. This is in addition to Red clause the Issuing bank authorizes the advising / confirming bank to have the goods warehoused in the country of the seller, in the issuing banks name, rather than that of the beneficiary. Thus payment under LC could be against warehouse receipts, instead of shipping documents.

6. TRANSFERABLE CREDITS

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Transferable Letter of Credit

Goods
Buyer
Seller / Second Beneficiary

con t

rac t
Merchant First Beneficiary
Transferable LC
Of LC to 2nd benef Req. for transfer

co

ac t nt r

LC Application

Payment

Documents

Payment

Payment Transferable LC Payment ADVISING BANK/NEG BANK Transfer of LC Advising/ Suppliers Bank

ISSUING BANK

Documents

Documents

A transferable credit is a credit under which beneficiary (First beneficiary) may request the bank to pay, incur a deferred payment undertaking, accept or negotiate (the transferring bank) or in the case of a freely negotiable credit, the bank authorized in the credit as a transferring bank, to make the credit available in whole or in part to one or more other beneficiaries. A credit can be transferred only if it is expressly designated as Transferable by the issuing bank. The beneficiary can transfer the LC in whole or in part to a second beneficiary. Such transfer is resorted to in cases where the first beneficiary is a trading agent and the goods are manufactured or processed by another party. The ultimate manufacturer could then become aware of the price paid by the overseas buyer, unless while transferring the price is reduced. Thus if the trading agent procures the goods at USD 10 per unit and sells it around USD 10.50 per unit, the manufacturer would know that the agents commission is 5%.

LC

Documents

Rece ives good s

Documents

19

 Further, in some cases, the manufacturer may issue the invoice/ bill at USD 10.50 per unit, whereas he receives the price of only USD 10. So, the manufacturer and agent will enter into a separate agreement whereby the manufacturer pays a commission of USD 0.50 per unit. While parts of the original LC can be transferred to different second beneficiaries, the second beneficiaries cannot in turn, transfer the LC to third beneficiaries. Legally, there could be some uncertainty about the exact import of transferability of a credit. The transfer could be construed either a san assignment or as a novation (a change of parties). If it is held to be a novation, in the event of the second beneficiary presenting forged or defective documents, the first beneficiary would not incur any liability to the issuing bank.

IMPORTANT PROVISIONS/GUIDELINES REGARDING TRANSFER OF LCS. 1. Transferable Credit means credit that specifically states it is transferable Article 38 (b).
2. Transferring bank means a nominated bank that transfers the credit or in a credit available with any bank, a bank that is specifically authorized by the issuing bank to transfer and that transfers the credit. 3. An issuing bank may be a transferring bank Article 38(b). 4. Transferred credit means a credit that has been made available by the transferring bank to a second beneficiary Article 38( b) 5. Unless otherwise stipulated in the LC, Bank charges for transfer of LCs must be paid for by the First Beneficiary Article 38 (c) 6. The beneficiary of a Transferable credit has right to request for transfer of LC in whole or in part to one or more other parties known as Second Beneficiaries.

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7. However, a Credit can be transferred in fractions (parts) only when partial shipments are not prohibited and the aggreagate of such transfers does not exceed the credit amount. 8. A credit which is specifically designated as TRANSFERABLE be transferred only at the request of the first beneficiary. can

9. The credit can be transferred only on the same terms and conditions stipulated in the original LC. 10. However, one or more of the following terms can be reduced or curtailed while transferring the credit. AMOUNT OF THE CREDIT UNIT PRICES EXPIRY DATE LATEST SHIPMENT SHIPMENT DATE OR GIVEN PERIOD OF

LAST PERIOD FOR PRESENTATION OF DOCUMENTS Article 38 (g) Further, the beneficiary can request/ stipulate for an increased percentage of insurance cover or ask for increase of cover up to the amount of cover stipulated in the original credit (i.e. He can ask for insurance cover for increased percentage of amounts like 120% of transferred value or may ask for say insurance cover for USD 110,000 when the credit is transferred for just USD 90,000) 11. The TRANSFEROR can also request for substitution of the name of the applicant with his name subject to the condition that if the original credit requires the name of the applicant to be mentioned on documents (other than invoice), the requirement must be met. 12. Unless, otherwise stated in the credit a transferable credit cannot be transferred again at the request of the SECOND BENEFICIARY to whom it has been transferred i.e. no vertical transfer can be allowed. 13. EXAMPLE: If a transferable credit is opened in favor of A and A has transferred the same in favor of B (Who is known as the Second Beneficiary),

21

B cannot further transfer the LC to another party. However, the credit can be retransferred to the FIRST BENEFICIARY. 14. Under a transferred credit, the First Beneficiary retains his right to substitute his invoices and drafts (wherever they are asked to be drawn) for those of the SECOND BENEFICIARY and claim the difference of amount if any, not exceeding the original credit amount. 15. But the FIRST BENEFICIARY must present his invoice and draft for substitution on First demand made by the NEGOTIATING BANK, failing which the Negotiating bank will remit documents to the Issuing Bank as received from the Second Beneficiary. 16. A transferable credit can be transferred by the first beneficiary to a second beneficiary in the same country (as that of the first beneficiary) or in another country unless the credit specifically prohibits such transfer. 17. Unless specifically prohibited in the credit, the bank transferring a credit which is available at its own counters, could at the request of the first beneficiary, transfer the place of availability to the country of the second beneficiary. 18. If a credit is transferred to more than one second beneficiary rejection of an amendment by one or more second beneficiary does not invalidate the acceptance by any other second beneficiary, with respect to which the transferred credit will be amended accordingly. 19. For any second beneficiary, that rejected the amendment, the transferred credit will remain un amended .Article 38(f).

7. BACK-TO-BACK CREDITS
Such credits are not recognized under UCPDC. Back-to-back credit refers to a situation where a trader agent gets a LC from a foreign bank and requests his bank to open another Local LC in favor of the ultimate supplier i.e. one LC backs another LC. The two LCs are separate and independent instrument not legally connected, but they would be a part of the same transaction. Unlike transferable credits, back-to-back credits may be passed on to any number of beneficiaries.

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Back-to-Back Letter of Credit

Goods
Buyer Seller

con t

rac t

co

ac t nt r

LC Application

Merchant Benef/ applct

Confirmed LC
LC Application Documents

Payment

Payment

Payment

ISSUING BANK

LC & Req. to add confirmation

Payment ADVISING BANK/NEG BANK LC Advising/ Suppliers Bank

Documents

Documents

Mechanics of Stand by LC
CONTRACT
monthly supply of 10 machines @ USD 10000
USD 100000 USD 100000 USD 100000 USD 000000 10 MACHINES 10 MACHINES 10 MACHINES 10 MACHINES EXPORTER

IMPORTER

DEFAULT CLAIM
SLC

OPENS SLC FOR USD 100000

Advising bank

LC 32

8. STAND-BY-CREDITS
Stand-by credits are extensively used by banks in USA. These are merely security cover for beneficiaries and Issuing bank promises to pay only on default by the applicant. 23

Documents

Rece ives good s

Documents

These may relate to regular trade between the applicant and the beneficiary (buyer and seller). If any one sale transaction is not paid by the buyer, the stand-by LC will authorize the beneficiary to draw on Issuing bank giving a certificate stating that a default has occurred. Stand by LC are not documentary credits, as conventionally known and yet they are governed by the provisions of UCPDC.

CREDIT IMPLICATIONS
CREDIT IMPLICATIONS: ISSUING BANK (IB)
The Issuing Bank acts on behalf of the applicant and under instructions from the applicant, who is the buyer of the goods. As a rule, issuing bank should not open clean LC where there is no evidence of movement of goods (other than stand by LC). Issuing banks liability to pay the sight LC or accept and pay the acceptance or usance LC is absolute and unconditional. Issuing bank must pay if the documents are in order and the terms of credit are satisfied. Any dispute between the buyer and the seller must be settled between themselves. The issuing bank should therefore, be absolutely certain that the applicant (buyer of the goods) is able and willing to pay the amount of LC when due. SIGHT LC : The payment obligation is immediate i.e. on receipt of documents; the amount has to be paid, if the applicant fails for any reason, Issuing bank should pay, without demur.

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To ensure against defaults by the applicant, Issuing bank may take one of the following steps: o Ask for the deposit of 100% of LC amount before issuing the LC. This however, is extremely rare in practice. o Get a deposit of a portion of LC amount, called margin, ranging between 10% and 25% and verify with reference to the financial position/ cash flow of the applicant that he would be able to pay the balance amount on receipt of the documents under LC. o Get a margin of say 25%, and ensure that the goods received under LC are taken as security for bank advance (pledge or hypothecation) and pay the bill amount under LC from the margin and the advance against the relative goods. In general, the practice of banks in India is to adopt the deposit of a portion of LC amount, called margin, ranging between 10% and 25% and verifying with reference to the financial position/ cash flow of the applicant so that he would be able to pay the balance amount on receipt of the documents under LC. The essential pre-requisite is that the applicant should have an advance (usually cash credit) limit with Issuing bank. Further, there should be sufficient un-drawn balance in the limit i.e. Drawing Power to pay for the bill under the LC on receipt. This presupposes that the goods covered under the LC are raw materials or stores used in the process of production or goods traded by the applicant. In cases where the goods covered under LC are spares of machinery or machines etc, then the margin or lien or letter of comfort or letter of undertaking can be taken by Issuing bank. This would be in order. Alternatively, if the machines being purchased under LC are to be financed by a term loan by Issuing bank or any other bank/institution, it should be ensured that sufficient amount of loan is earmarked for payment of documents to be received under LC. One apparently important requirement of all LC is that the value of the goods covered there under should be reasonable. For example, if the prevailing market price of raw cotton is USD 1 per kg, for the variety imported under a LC, Issuing bank ought not to issue or open an LC at a price of say USD 1.10 per kg. By doing so, the bank would be abetting in the purchaser siphoning off the funds.

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More importantly, in respect of imports, LC for higher than normal value would mean unlawful utilization of foreign currency and would attract stringent penal provisions of the laws of the land. Issuing bank should therefore verify the price indicated in the LC by comparing it with the prevalent market prices for the commodity covered under LC. Since the IBs liability is absolute, it is common for banks to verify the credentials of the beneficiary i.e. the seller of the goods, if the amount of the LC is relatively large. To underscore the liability of Issuing bank, Article 4 (a) of UCPDC 600 states.. A credit i.e. LC by its nature is a separate transaction from the sale or other contracts on which it may be based. Banks are in no way concerned with or bound by such contract, even if any reference whatsoever to it is included in the credit. Article 5 states.. Banks deal with documents and not with goods, services or performance to which the documents may related. In the circumstances given, if the documents tendered by the beneficiary are in strict conformity with the terms of the LC, Issuing bank is bound to pay, even if the applicant raises disputes with the beneficiary on quality, price etc. of the goods supplied. The protection to Issuing bank in such cases, in the view of many seasoned bankers, is that in the vast majority of cases, a trained person can always locate some discrepancy in the documents tendered. Even a tiny discrepancy can trigger the return of the documents and refusal to honor the LC commitment. But then, both the Issuing bank and the applicant have a maximum of 5 banking days following the day of presentation, for examining the documents and after that, if no discrepancy is notified, Issuing bank is bound to honor the bills under the LC.

ACCEPTANCE (USANCE) LC
It is in these types of LC, IB runs the highest credit risk. In such cases, it is always preferable to verify the credit worthiness of the beneficiary by reference to recognized agencies such as Dun & Bradstreet. IB would have virtually given an unsecured advance to the applicant by opening usance LC. The following example will show:

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LC issued on

1.09.2007 3 Months Cotton 10.09.2007 12.09.2007 Rs. 200 lacs. 20.09.2007 30.09.2007 31.10.2007 10.11.2007 11.12.2007

Period of USANCE: Commodity covered: Goods shipped on: Bill drawn on: Amount of bill: Bill accepted by IB on: Cotton received by applicant on: Cotton processed & yarn produced on: Yarn sold and proceeds received on: Due date of bill:

From the above example, which is common in industry in India, that the applicant has used the funds realized from the LC. (Sale of goods processed with LC) for over a month from 10.11.2007 to 11.12.2007. In other words, the credit period under LC tends to be longer than the processing time for the relative goods. Incidentally, from the time of arrival of goods in the applicants factory the goods would be under process and are not clearly identified. Scope for misuse of funds by the applicant, during the usance period of LC, through speculative investments is very much present in usance LC. Some banks stipulate in a facile manner that goods received under LC should be separately kept and the applicant should not be allowed to drawn against them in the cash credit account. This condition is not quite practical, as the goods keep on changing their character from the time of receipt by the applicant.

TO ENSURE AGAINST NON-PAYMENT BY THE APPLICANT ON THE DUE DATE OF USANCE BILLS UNDER LC, THE FOLLOWING MEASURES ARE SUGGESTED:

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a. Full cash margin at the time of issuing the LC or at the time of receipt of bills (This is extremely difficult in many cases). b. Suitable initial margin of 10% to 25% on receipt of bill and progressive additions to the margin so that 100% is recovered by the due date. c. Fully covering the credit risk by a combination of cash margin (10% to 25%) and earmarking the advance limit for the balance. d. Instead of limit, some banks also reduce the value of the bill from the value of inventory hypothecated for the advance, so that in the event of cash crunch, drawings (advance) could be allowed against them for paying the bill amount.

e. As an alternative to the above, grant a combined LC cum cash credit limit and cover the aggregate of LC liability and cash credit dues by the drawing power. f. This was not possible when there was a strict implementation of Working Capital Demand Loan system. Now that the system is no longer applied, this method is an ideal one. g. Lastly, diarize 15 days before the due date of the bill and closely follow up with the applicant to place sufficient funds in his account before the due date to meet the LC Liability. Banks that issue usance LC are well advised to desist from issue of usance LC in favor of a locally based beneficiary i.e. the applicant and the beneficiary is located in the same city. This method has been used by many unscrupulous businessmen to get funds from the banking system through LC. A few years ago, in 1998 it was in Kolkatta where genuine usance LC of a leading public sector bank was used for accommodation or kit-flying purposes. Both the applicant and the beneficiary belonged to the same business group and colluded to draw money from banks under LC without movement of goods. Banks should be extremely wary and avoid, as far as possible, issuing usance LC for applicants who are otherwise defaulters to their banks i.e. their advance accounts are non performing assets (NPA) for the bank. Very often banks are lured to issue such LC even for NPA borrowers, on the premise that LC is only a contingent liability. This premise is faulty and the relative LC Liability generally devolves on the Issuing bank.

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CREDIT IMPLICATIONS-CONFIRMING BANK

Confirming bank takes up identical responsibility and risk as issuing bank. Unless the confirming bank is fully satisfied with the credentials of Issuing bank, it ought not to undertake this onerous responsibility. Banks have to be extremely careful when confirming LC issued by Issuing bank in financially troubled countries. In such cases, even though Issuing bank and the applicant would have funds to pay for the bills in the local currency, there could be restrictions on repatriating the proceeds to another country. Such risks called transfer risks could, however, be covered under the appropriate guarantee scheme of ECGC.

CREDIT IMPLICATIONS-NEGOTIATING BANK

In respect of SIGHT LC, the negotiating bank is generally assured of payment of the bill and the bank can also part with the proceeds immediately to the beneficiary, provided the following aspects are fully taken care of: a. Check the credentials of Issuing bank. International banks do go through an elaborate exercise of fixing for other banks up to which LC of the issuing bank may be accepted for negotiation. b. Further, the country in which Issuing bank is located is also an important factor to be reckoned with. For example, LC issued by Citibank, New York would be acceptable whereas LC issued by the branch of Citibank in a financially distressed country may not be acceptable. In such a case it is common for banks to ask for confirmation of the LC by Citibank or another major bank situated in a financially sound country. c. Keep the terms of LC, especially description of documents, goods etc. as simple as possible. The more complex the terms, the greater is the scope for picking up discrepancies. The negotiating bank may advise its exporter/seller client to keep this in mind while getting LC for supplies to be made.

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d. Ensure that the bills (either demand or usance) are drawn only on the Issuing bank or a bank designated for the purpose by Issuing bank. UCPDC 600 rules are clear in this respect and state a credit must not be issued available by a draft drawn on the applicant e. Verify that the documents tendered by the beneficiary fully conform to the terms of the LC. Otherwise, the negotiating bank should have full recourse to the beneficiary, if the documents were to be rejected by Issuing bank. In regard to usance bills, in addition to the above precautions, the negotiating bank would be well advised to keep off local usance bills, as the presumption in such cases is that these have been drawn for accommodation purposes viz: there is no movement of goods.

DISPUTE RESOLUTION
Letters of credit do provide for a convenient mode of payment for goods traded, especially incases where the seller is unable to find out about the credit worthiness and respectability of the buyer. Although the ICC has standardized the various terminologies and has set out very clearly the obligations of the various parties still disputes could arise. To resolve these disputes, ICC has evolved rules for Documentary Credit Dispute Resolution Expertise, known as DOCDEX rules. These seek to provide a rapid, cost-effective expert-based dispute resolution mechanism for documentary credit practice including bank to bank reimbursement issues. If the parties agree to abide by DOCDEX decision, the dispute could be resolved by experts appointed by ICC for a reasonable fee. Banks issuing LC could persuade applicant to incorporate a clause in LC to the effect that the LC will be governed by DOCDEX rules.

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IMPORT LETTERS OF CREDIT

AD Banks normally issue Import LC under the following circumstances: When a resident in India is importing goods into India. When a resident merchant trader (known as intermediary ) is purchasing goods from one country, for sale to another country, for the purpose of merchanting trade. When an Indian exporter who is executing a contract abroad requires to import goods from a third country to the country where he is executing the contract.

REGULATIONS OPENING OF CREDITS INVOLVE COMPLIANCE OF

Trade Control Requirements. FEMA 1999 Credit Norms of RBI FEDAI, UCP -600, URR- 725, ISBP 681 rules/guidelines Banks Internal Procedures.

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TRADE CONTROL REQUIREMENTS UNDER FOREIGN TRADE POLICY (2009-2014)

Import Trade Control is administered in India under the Foreign Trade (Development and Regulation) Act, 1992 and Foreign Trade (Regulations) Rule, 1993. Import Trade Control (ITC) is exercised by the Director General of Foreign Trade (DGFT) functioning under Ministry of Commerce, Government of India. Trade Control lays down the policy and regulations relating to physical movement of goods into India. Since letter of credit envisages payment of goods being brought into the country, the first step a banker needs to ensure is whether the goods concerned can be physically brought into India as per the current FTP. He can proceed with the issuing of an import letter of credit when this crucial aspect is in the affirmative. Therefore, a person who wishes to issue an import letter of credit must have the basic authorization for import of goods. The Export Import Policy (EXIM) is announced by means of Public Notice in Gazette of India. EXIM Policy of Government of India is embodied in the Exim Policy book. Rules and Procedures observed by ITC authorities are contained in Hand Book of Procedures. Any changes in the policy and procedures are notified by means of Public Notices/ amendment orders etc. The Exim Policy is announced by Government of India valid for a period of 5 years effective from 1st April 1992.

THE SALIENT FEATURES OF THE IMPORT EXPORT POLICY IS:

The importability of the goods to be ascertained through ITC (HS) Code No. (INDIAN TRADE CLASSIFICATION HARMONIZED SYSTEM) of the respective items against which a specific note will appear either as free or prohibited or restricted. The applicant must possess an IMPORTER EXPORTER CODE NUMBER (IEC) allotted by DGFT. If import is covered under licence, the applicant must submit Exchange Control Copy of the same. Licence must be scrutinized to ensure that:

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i. ii. iii. iv. v.

It has not been cancelled by any notification/ order etc. It is issued on security paper. It has a printed number and date. It has a security seal (including on the annexure, if any). It is issued in the name of the applicant or properly transferred in his name with proper transfer letters authorizing him to effect import and open letter of credit by the licensee as per provisions of FTP. Commodity specified is in agreement with the item specified in the application. Quantity or amount limits specified are in agreement with those mentioned in the application. It is pertinent to note that irrespective of the sale terms for which credit is proposed to be issued, licence must have adequate value to cover CIF value plus agency commission and interest if any. Country of origin of goods authorized in the licence agrees with that specified in the credit application. Country of shipment authorized is in agreement with the one stated in the credit application. It is valid for shipment at least up to the last shipment date requested for in the credit application. If licence stipulates any specific conditions, such conditions should be complied with by the applicant. If licence is issued under any bilateral or multilateral agreement, the conditions stated in the concerned agreements and the relative ITC Notification should be complied with. If licence stipulates placement of order within a specified time limit, the sale contract submitted must confirm compliance of the condition.

vi. vii.

viii. ix. x. xi.

xii.

xiii.

CATEGORIES OF IMPORTERS FOR THE PURPOSE OF LICENSING, IMPORTERS ARE DIVIDED INTO THE FOLLOWING BROAD CATEGORIES:

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(a) Actual user

1. 2.

Industrial Non-Industrial.

(b) EXPORTER HOLDING CERTIFICATE. 1. 2. 3. 4.

REGISTRATION

CUM

MEMBERSHIP

Manufacturer Exporter, Merchant Exporter, Status Holder, Export Oriented Unit.

Actual user (industrial) means a person who utilizes the imported goods for manufacturing in his own industrial unit or manufacturing for his own use in another unit including a jobbing unit. Actual user (non-industrial) means a person who utilizes the imported goods for his own use in: 1. Any commercial establishment carrying on any business trade or profession. 2. Any laboratory, scientific or research and development (R&D) institution or other educational institution or hospital. 3. Any service industry. MANUFACTURER EXPORTER means a person who manufactures goods and exports or intends to export those goods. MERCHANT EXPORTER means a person engaged in trading activities and exporting or intends to export those goods. STATUS HOLDER means an exporter recognized as: Export House Star Trading House

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 Super Star Trading House

OR SERVICE PROVIDER RECOGNIZED AS: Service Export House, International Service Export House, International Star Service Export House by the Director General of Foreign Trade.

EXPORT ORIENTED UNIT means a unit undertaking to export their entire production of goods and services and may be set up under the Export Oriented Unit Scheme. SUCH UNITS MAY BE ENGAGED IN Manufacture services, Repairs, Remaking, Reconditioning etc. Making of gold, silver, platinum jewellery and articles thereof, Agriculture, including Agro-processing, Aquaculture, Animal husbandry, Poultry and

May export all products except restricted and prohibited items of exports in ITC (HS).

REGISTRATION -CUM -MEMBERSHIP CERTIFICATE

A certificate issued by any Export Promotion Council, Commodity Board or other registering authorities designated by Government for the purpose of Export promotion for Export Houses,

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 Trading Houses, Star Trading Houses and Super Star Trading Houses. The criteria for classification of export units which operate as highly professional and dynamic institution and act as important instrument for growth are on the basis of the FOB / Net Foreign Exchange value of export of goods and services, including software exports made directly as well as services rendered by the exporter/ service provider during the preceding three licensing years or the preceding licensing year at the option of the exporter. The export made both in free foreign exchange and in Indian Rupees as well as ACU $ shall be taken into account for the purpose of recognition.

COUNTRY OF IMPORTS
Unless otherwise specified licenses for import including CUSTOMS CLEARANCE PERMITS (CCP) are valid for import of goods from any country in the world. Except those countries against which trade ban is imposed by trade control authorities. EXIM policy presently totally prohibits trade with Iraq.

FEMA 1999 REQUIREMENTS

The scope of FEMA 1999 is to oversee the payments and receipts by residents to non residents and vice versa. Import Letter of Credit to be issued by the bank is to effect settlement of payment due by the Indian importer (resident) to the overseas supplier (nonresident). Hence the issuing of credit automatically falls under the purview of exchange control and payment authorized or committed under the letter of credit must be within the scope of FEMA 1999 regulations. The scope of these regulations is in addition to the guidelines of trade control and covers the methods of payment, time limit etc.

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DETAILED GUIDELINES
The applicant must be the banks customer, who has a KYC compliant regular account and is known to be participating in trade (Normally this should be taken care of at the time of sanction of limits). The credit, should in particular stipulate a condition that the bill of lading (i.e. the transport document) should indicate the name and address of the importer in India and also the authorized dealer opening the credit. Credit should not be opened for import of goods which are under restricted category unless the importer submits a valid licence marked For Exchange Control Purposes. If import if from Nepal or Bhutan the payment must be made in Indian Rupees treating the same for all practical purposes as a domestic credit . If credit is opened in favor of beneficiary of ACU country or letter of credit envisages goods to be shipped from ACU country, it should be denominated in ACU dollar which is equivalent to one USD. If import is made under a foreign loan or credit agreement and payment is authorized under letter of commitment method, letter of credit should not envisage any remittance from India. In the case of import licences where reimbursement method applies, authorized dealers should make appropriate stipulations to ensure that the prescribed documents are submitted to them without fail. If import is of technology, drawings and designs, applicant must be advised to pay Research and Development Cess, before allowing remittance, as required under Research and Development Cess Act, 1986. For this purpose the bank may take the necessary undertaking from the applicant, at the time of opening of the credit. If import is on cash, DP terms should be such that the remittance is completed within six months from the date of shipment. In the case of import bills negotiated under credit and retired by importer after expiry of six months from the date of shipment, it will be in order if reimbursement to the overseas bank was made by the Credit issuing bank within six months from shipment date. AD bank may allow payment of interest on usance bills or overdue interest for a period of less than three years from the date of shipment at the rate prescribed for trade credit from time to time (LIBOR + 200 BP).

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In case of pre payment of usance import bills, remittances may be made only after reducing the proportionate interest for the unexpired portion of usance at the rate at which interest has been claimed or LIBOR of the currency in which the goods have been invoiced, whichever is applicable. Where interest is not separately claimed or expressly indicated, remittances may be allowed after deducting the proportionate interest for the unexpired portion of usance at the prevailing LIBOR of the currency of invoice. If a credit is to be issued for transaction of merchanting or intermediary trade, it should be ensured that there is a letter of credit for the other leg of the transaction on back to back terms or there is a full advance payment. Credit should be opened only in favor of the clients of the bank who are genuine traders in goods and not mere financial intermediaries.

If the Indian exporter desires to issue a letter of credit for import from third countries to the country where he is executing the construction/turnkey contract, it can be issued subject to the following conditions: The applicant exporter holds necessary approval as may be necessary under the FEMA 1999 regulations. Credit is being issued on back-to back basis against the letter of credit opened by the project authorities and such letter of credit has been advised by the same bank issuing the credit. Even though issuing of a letter of credit is a non-fund based facility, the AD bank will take all precautions applicable to fund based facility while sanctioning Credit limits. AD Banks will ensure that the customer on whose behalf the credit is to be issued is the customer, with satisfactory dealings. Even if the credit to be issued is fully secured with adequate cash margin, proper enquiry relating to the activity of the customer, his actual requirements and a satisfactory report about the overseas seller should be obtained and recorded and a regular limit will be sanctioned for this facility.

OTHER CONDITIONS NORMALLY OBSERVED BY THE AD BANKS ARE:

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1. Every person/firm/company importing goods whether against Import Licence or otherwise freely importable is required to obtain an IMPORTER EXPORTER CODE NUMBER from DGFT. 2. If the goods are classified under Restricted Category, AD will make remittance for such imports only if the Importer is holding the Exchange Control Copy of the Import Licence, permitting the importer to import the specified goods in the licence. Payment of bills drawn under LC as well as bills received for collection against imports into India must be made by the debit of the account of Importer or by a crossed cheque drawn on his banker. No cash transactions will be allowed to settle the import payment. The shipping documents should be delivered only to the drawee of the bill who should be the holder of the licence or Letter of Authority. Importer should submit the prescribed application for remittance- Form A1 at the time of effecting the remittance for Imports under LC along with FEMA declaration. The payment for import should be made in a currency or from an account appropriate to the country of shipment or goods. If the goods are shipped from a country under ACU group and the seller is in a country other than ACU group of countries , payment can be made in a freely convertible currency also, if the seller demands. Import licences will be for CIF value. For issuing LC on FOB basis suitable provisions should be made for Insurance and Freight. AD bank will effect advance payments in case of imports subject to the prescribed limits and conditions by Reserve Bank. Importers should not enter into deferred payment arrangement against Cash Licence. The remittance for imports should be made within 6 months from the date of shipment. When Letters of Credit are opened or remittances made, it must be endorsed in the Exchange Control copy of the Import Licence. Exchange Control copy of the Import Licence when fully utilized should be surrendered to the AD bank who will in turn preserve the same for verification by the AUDITORS. AD bank will return Exchange Control copy of Import Licence to Importers only if it had been partially utilized and further remittances are to be made by

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another AD bank or to be resubmitted to DGFT either for extension or for revalidation. Before handing over the licence, AD bank should ensure endorsing the licence for utilization and it should be delivered with proper acknowledgement. A photo copy of the used licence with endorsement should be made available at the branch of AD bank. The importers should submit Exchange Control Copy of the Bill of Entry within 3 months from the date of remittance. AD bank will be following-up with the importers for obtaining the EXCHANGE CONTROL COPY OF THE BILL OF ENTRY and if not received in another 3 months, will report the details of defaulters where the value of transaction is more than USD 100,000 to RBI through a Half Yearly Statement BEF. AD bank may issue LC only on behalf of their own customers who maintain accounts with them and are known to be participating in the trade. Credit will be issued in favor of overseas supplier, manufacturer or shipper of goods and not in favor of applicant himself or his nominee. AD bank may accept Guarantee or Margin money from third party but the Importer should be in a position to meet his import commitments. Before establishing the Credit AD bank will verify the underlying Sale Contract in original and keep it with them for records. The credit should be issued in such a way that the last date of shipment of goods is within the validity of the Licence or relative licencing period. Credit should be opened based on underlying sale contract. In the absence of a sale contract, Purchase order/ Proforma Invoice/ Indent or Offer is acceptable. Such document should have the confirmation and acceptance of both overseas supplier and the importer. In respect of Transferable credits transfer is restricted to specified second beneficiaries within the country of first beneficiary or another country which confirms to prescribed manner of payment. Issuing of Revolving LC against import of goods into India can be allowed in exceptional cases with adequate safeguards/ conditions particularly with reference to aggregate drawings under such Credits and shipment dates etc. Issuing of Deferred Payment Credit, where remittances against imports are to be completed beyond 6 months from the date of shipment are to be treated as

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STC-SHORT TERM CREDIT and AD bank should be guided by relevant guidelines issued by RBI from time to time. Opening of Stand by LC for import of goods and services in India is permitted by RBI subject to the adherence of guidelines issued by FEDAI.

CREDIT NORMS OF RBI

Issuing of a LC is undertaking a payment commitment on behalf of the applicant. Hence, it amounts to extension of credit to the applicant, which should naturally be within the credit norms of RBI. Though a LC facility is a non-fund credit facility, it has the potential to turn to funded facility, if the applicant does not reimburse the bank at the appropriate time (on presentation of documents or on due date) As per credit norms extending usance (DA) LC facilities tantamount to substitution of funded facilities (in other words extending the funded facility). In the light of this, RBI has advised all banks to assess the facilities of import letter of credit requirements like any other normal credit assessment. Other aspects to be kept in view by bankers while sanctioning import LC facility are: If the facility is to cover import of commodities covered by selective credit control, the guidelines of selective credit control (mainly relating to margin requirements and quantum of facilities sanctioned) must be complied with. When the import LC facility is to cover import of capital goods, banks must ensure availability of adequate long term funds for value of import and customs duties thereon. Banks must assess and extend the facility with all the precautions that are taken for granting of a term loan or DPG. When import letter of credit facility is granted on DA basis the usance period allowed (after taking into account the time taken for movement and clearance of goods) should be within the period of inventory norms suggested by RBI (wherever applicable) or the reasonable period required by the unit concerned. Though import letter of credit facilities are non-funded facilities, banks are advised to assess the requirements like funded facilities and to ensure that borrowers will be in a position to honor their commitments as and when they fall due.

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PRECAUTIONS TO BE TAKEN IN THE CASE OF LC

Refer RBIs Master Circular on Guarantees and Co-acceptances. Banks should not extend any non-fund based facilities or additional/ ad-hoc credit facilities to parties who are not their regular constituents, nor should they discount bills drawn under LCs, or otherwise, for beneficiaries who are not their regular clients. In the case of LCs for import of goods, banks should be very vigilant while making payment to the overseas suppliers on the basis of shipping documents. They should exercise precaution and care in comparing the clients. The payments should be released to the foreign parties only after ensuring that the documents are strictly in conformity with the terms of the LCs. There have been many irregularities in the conduct of LC business, such as the LC transactions not being recorded in the books of the branch by officials issuing them, the amount of LCs being much in excess of the powers vested in the officials, fraudulent issue of LCs involving a conspiracy/ collusion between the beneficiary and the constituent. In such cases, the banks should take action against the concerned officials as well as the constituent on whose behalf the LCs were opened and the beneficiary of LCs, if a criminal conspiracy is involved.

SETTLEMENT OF CLAIMS UNDER LCs

Refer RBIs Master Circular on Guarantees and Co-acceptances: In case the bills drawn under LCs are not honored, it would adversely affect the character of LCs and the relative bills as an accepted means of payment. This could also affect the creditability of the entire payment mechanism through banks and affect the image of the banks. Banks should, therefore, honor their commitments under LCs and make payments promptly.

RBIS GUIDELINES FOR LC AND DISCOUNTRING / REDISCOUNTING OF BILLS BY BANKS:

RBIs Master Circular on Loans and Advances-Statutory and Other Restrictions:

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Banks should open LC and purchase/discount/negotiate bills under LCs only in respect of genuine commercial and trade transactions of their borrower constituents who have been sanctioned regular credit facilities by the banks. Banks should not, therefore, extend fund-based (including bills financing) or non-fund based facilities like opening of LCs, providing guarantees and acceptances to non-constituent borrower and non-constituent member of a consortium/ multiple banking arrangement. However, in cases where negotiation of bills drawn under LC is restricted to a particular bank and the beneficiary of the LC is not a constituent of that bank, the bank concerned may negotiate such an LC, subject to the condition that the proceeds will be remitted to the regular banker of the beneficiary. However, the prohibition regarding negotiation of unrestricted LCs on nonconstituent will continue to be in force. Sometimes a beneficiary of the LC may want to discount the bills with the LC issuing bank itself. In such cases, banks may discount bills drawn by beneficiary only if the bank has sanctioned regular fund-based credit facilities to the beneficiary. With a view to ensuring that the beneficiarys bank is not deprived of cash flows into its account, the beneficiary should get the bills discounted/ negotiated through the bank with whom he is enjoying sanctioned credit facilities. Bills purchased/discounted/ negotiated under LC (where the payment to the beneficiary is not made under reserve) will be treated as an exposure on the LC issuing bank and not on the borrower. All clean negotiations as indicated above will be assigned the risk weight as is normally applicable to inter-bank exposures, for capital adequacy purposes. In the case of negotiations under reserve the exposure should be treated as on the borrower and risk weight assigned accordingly. While purchasing/discounting/ negotiating bills under LCs or otherwise, banks should establish genuineness of underlying transactions/ documents. Banks should ensure that blank LC forms are kept in safe custody as in case of security items like blank cheques, demand drafts etc and verified / balanced on daily basis. LC forms should be issued to customers under joint signatures of the banks authorized officials. The practice of drawing bills of exchange claused without recourse and issuing letters of credit bearing the legend without recourse should be

43

discouraged because such notations deprive the negotiating bank of the right of recourse it has against the drawer under the NI Act. Banks should not therefore open LCs and purchase, discount negotiate bills bearing the without recourse clause. On a review it h as been decided that banks may negotiate bills drawn under LCs, on with recourse or without recourse basis, as per their discretion and based on their perception about the credit worthiness of the LC issuing bank. However, the restriction on purchase/ discount of other bills (the bills drawn otherwise than under LC) on WITHOUT RECOURSE basis will continue to be in force.

FEDAI AND UCPDC PROVISIONS

FEDAI which is an apex forum of banks authorized to deal in foreign exchange, issues guidelines at the instance or with the concurrence of RBI for safe and smooth conduct of various foreign exchange operations. Import letters of credit being one of the important areas of Forex operations, fall within the scope of their guidelines.

BANKS INTERNAL PROCEDURES

All Banks will normally have their own internal procedures for carrying out foreign exchange operations, particularly a facility like import letter of credit which involves a credit decision. RBI has also advised banks to issue internal guidelines, covering various FX areas of operation to their staff at various levels. These guidelines cover certain decision making discretionary powers at appropriate levels in areas like determining the value limit beyond which credit reports on beneficiaries are to be obtained, waiver of standard conditions of letters of credit to suit specific requirements of customers. All staff members dealing with import letters of credit must follow such internal guidelines of the bank concerned in the interest of, not only the bank, but also the overall interests of exchange control.

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DETAILED GUIDELINES ARE GIVEN BELOW SANCTION OF LIMITS:

As per FEMA 1999 regulations and RBI guidelines, banks are expected to open import letters of credit for their own clients who are regularly dealing with them and who are known to be participating in the trade. Hence, selection of a client must be discreet. Banks can obtain the following information to establish the bonafides of the importer: a. The importer- exporter code number allocated by Trade Control Authorities which goes to establish the identity of importers. b. Details of their industrial licence, DGTD Registration, SSI Registration, Registration Certificated issued by trade bodies, R & D Recognition Certificate, Food and Drug Administration Department Licence, Registration Certificate under Shops and Establishment etc as applicable. c. This would not only establish their bonafides but also help to determine their eligibility for import, particularly of imports subject to Actual User conditions. After clients selection, the facilities required should be assessed taking the same precautions as would be taken for fund based facilities keeping in view the credit guidelines of RBI. Normally import letter of credit facilities will be assessed considering factors like production/ trading capacity of the unit, its import requirements, time taken by suppliers for shipment, time involved in movement of goods, credit period offered by suppliers etc. Extra care should be taken while sanctioning facilities on DA basis or for import of capital goods. Wherever required, adequate margins (particularly in case of DA facilities, SCC commodities and facilities to traders) should also be stipulated. As per foreign exchange regulations, banks can accept margin monies from third parties at their discretion, but must ensure that the applicant will be in a position to retire the bills and be able to clear the goods by payment of duties.

DOCUMENTATION FORMALITIES
After the limits are sanctioned, banks normally obtain main security documents like guarantee from borrower/ sureties, execution of pledge/ hypothecation agreements, obtaining of collateral securities as per the sanction terms.

45

This documentation is in addition to the individual credit application-cumagreement, taken at the time of issuing the letter of credit.

IMPORTANCE OF LC AGREEMENT: IT WILL CONTAIN THE FOLLOWING IMPORTANT PROVISIONS:

It should be duly stamped and filled up before its execution. To hold the Bank harmless in the event of any damage to merchandise shipped or deficiency or defect in the documents. To make available the goods as security. To indemnify for the loss or damage of goods and pay for the amount negotiated under LC. To authorize the bank for liquidation of Foreign Currency liability into Rupee liability on the 10th working day after the date of receipt of documents. Not holding bank responsible for the regularity, validity, sufficiency or genuineness of documents even if such documents in fact prove to be in all or any respect invalid, insufficient, fraudulent or forged. To produce Exchange Control Copy of the relative Customs Bill of Entry. To retire the bills out of own resources. To accept UCPDC 2007 Revision ICC Publication No 600. To sign, execute, and deliver any documents required.

OBTAINING OF LETTER OF CREDIT APPLICATION

At the time of opening letter of credit the applicant needs to give an APPLICATION-CUM-AGREEMENT. FEDAI has evolved a standard credit format for adoption by banks based on ICC Standard credit application with suitable modifications to suit Indian situations. It has the main application and an agreement part.

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The application, being a request-cum-agreement to open a letter of credit, has to be affixed with necessary stamp duty. Since banks supply printed and stamped formats to applicants, they only need to ensure that the applicants fill in all details properly and sign them.

ALONG WITH THE APPLICATION, THE IMPORTER NEEDS TO GIVE:

The underlying sales contract which forms the basis for opening the letter of credit. Exchange control copy of import licence or a declaration stating that the goods are freely importable. Insurance Policy/ Cover note if insurance is being covered locally.

SCRUTINY OF LETTER OF CREDIT APPLICATION

The application must be filled in all respects without inconsistencies and ambiguities. The documents and conditions requested for should be in accordance with the underlying sales contract and the provisions of Trade and Foreign Exchange Regulations. The application being also an agreement must be verified with reference to specimen signatures lodged with the bank.

SEEKING CHANGES IN INSTRUCTIONS

After the application has been scrutinized from all angles if the bank feels that the applicants instructions are not consistent or suitable, it must ask the applicant for revised instructions. It may be kept in mind even though the wording of UCPDC-----ARTICLE 2. which reads Issuing bank means the bank that issues a credit at the request of an application or on its own behalf offers leeway for the bank to modify/ rectify the instructions. It is prudent and advisable for a bank to obtain revised instructions wherever the applicants instructions are not clear.

ISSUING OF LETTER OF CREDIT

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Normally banks have their own internal procedures/system for obtaining the specific approval of manager/ authorized officer before issuing a letter of credit. Such formalities if any must be completed before the letter of credit is actually established.

STEPS INVOLVED IN ISSUING THE LETTER OF CREDIT

ENTRY IN LETTER OF CREDIT ISSUED REGISTER
After the request for issuing the letter of credit is formally approved, a chronological letter of credit serial number must be assigned and details should be entered in the import letter of credit issued register. In this register apart from all essential details of the letter of credit, following particulars must also be entered at appropriate stages: Details of commission and other charges collected (including margin) Details of import licences if any against which the letter of credit is established. Details of endorsements made on Import Licences. Actual date of dispatch/ transmission of letter of credit. PASSING OF ENTRIES IN THE BOOKS, COLLECTION OF CHARGES Normally banks pass contra entries in respect of all contingent liabilities undertaken by them on behalf of the customers. Such entries must be passed in the books (converting foreign currency liabilities at the bank bill selling rate). Commission must also be collected as per policy of the Bank apart from collecting out of pocket expenses, stipulated margins and other expenses. CHARGES ON LETTERS OF CREDIT TRANSACTIONS FOR IMPORT LETTER OF CREDITS Commitment charges for the full validity of the credit. Usance Charges according to the tenor. For levying both the charges, bank will take into account total amount committed inclusive of interest amount and tolerance level. 48

In case of LCs established with 100% margin charges may be fixed by the banks at their discretion irrespective of the value of the credit (See forex charges circular) In case of extension of the validity period of credit, if it falls within a three month period for which commitment charge has already been recovered, a minimum amendment commission will be recovered. However, an amendment extending the validity period of the credit beyond a three month period (for which commitment charge has already been recovered) a fresh commitment charge at the applicable rate per quarter and part thereof shall be recovered. In case of enhancement of the value of the credit both usance and commitment charges as applicable to establishing a credit shall be recovered for the additional amount, on the outstanding liability under the credit.

NOTE:
For the purpose of levying charges under this Rule, value of each enhancement will ordinarily be considered separately without adding it to the original value of the credit. However, AD may at his discretion add the value of enhancement to the outstanding liability under the credit for the purpose of levying charges depending upon the circumstances of each case. Any amendment to a letter of credit, other than extension of the validity or enhancement of its value, minimum commission will be charged. Any revival or reinstatement of an expired credit shall be at the option of the bank but within 3 months from the date of expiry and shall be subject to recovery of usance charge and commitment charge from the date of expiry unto the validity period of the revived letter of credit. Banks are free to determine their own charges for various forex transactions w.e.f. 27th September, 1999. In addition to the guidelines enumerated above, the following additional instructions should be followed by branches in connection with the establishment of import LCs.

IMPORT LICENSES:
It should be ensured that the goods to be imported under the LC are covered by valid import licenses, where required, issued either in the name of the customer or properly transferred in his favor.

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Branches should also satisfy themselves about the identity of the importer and that the person mentioned in the import license/transferee of the license and the importer are one and the same. Among other things, the amount of the license or the balance available there under, the type of goods permitted, the country of origin, the validity period, limiting factor for imports (quantity and/or value), and any special conditions imposed, etc. should be scrutinized to ensure that the import is duly authorized. In particular, the following clause should be incorporated in all credits for import of goods under IBRD loans:Goods financed under this credit must not originate in or be shipped in a vessel flying the flag of any country which is not a member of the IBRD except Switzerland. If import is covered under licence, the applicant must submit Exchange Control Copy of the same. Licence must be scrutinized to ensure that: It has not been cancelled by any notification/ order. It is issued on security paper. It has a printed number and date. It has a security seal (including on the annexure, if any) It is issued in the name of the applicant or properly transferred in his name with proper transfer letters. Authorizing him to effect import and open letter of credit by the licensee as per provisions of FTP. Commodity specified is in agreement with the item specified in the application. Quantity or amount limits specified are in agreement with those mentioned in the application. It is pertinent to note that irrespective of the sale terms for which credit is proposed to be issued, Licence must have adequate value to cover CIF value plus agency commission and interest if any. COUNTRY OF ORIGIN OF GOODS authorized in the licence agrees with that specified in the credit application.

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 COUNTRY OF SHIPMENT authorized is in agreement with the one stated in the credit application. It is valid for shipment at least up to the last shipment date requested for in the credit application. If licence stipulates any specific conditions, such conditions should be complied with by the applicant. If licence is issued under any BILATERAL OR MULTILATERAL AGREEMENT, the conditions stated in the concerned agreements and the relative ITC Notification should be complied with. If licence stipulates placement of order within a specified time limit, the sale contract submitted must confirm compliance of the condition.

WORLD TRADE ORGANIZATION When countries get together and agree the rules and terms on how they are to trade with each other they form multilateral or bilateral agreements. Multilateral agreements will be agreed by the majority of countries. Bilateral will be agreements by a smaller number e.g. EUROPEAN UNION. The largest multilateral agreement is WTO which was formed in 1995 and was born out of the GATT (GENERAL AGREEMENT OF TARIFFS AND TRADE). WTOs Goal is to help exporters and importers conduct business, to remove trade barriers that countries face and help disputing parties to reach an agreement. EXCHANGE CONTROL: The terms of payment stipulated in the credit should fall within the permitted methods of payment as prescribed under FEMA. FORWARD CONTRACT: In case forward contract has to be arranged, an undertaking shall be obtained from the applicant agreeing to accept the rate ruling on the date on which the forward contract is arranged. When 100 per cent margin is recovered from the applicants, they should be informed that the margin represents a mere deposit against the proposed credit and that all bills negotiated there under will have to be retired at the rate of exchange ruling at that time, unless the rate has been fixed under a forward contract. 51

WHERE LCS ARE TO BE OPENED FOR THE IMPORT OF MACHINERY FOR THE PROJECT, THE LC OPENING BRANCHES SHOULD ENSURE THAT : The beneficiaries of LCs are well reputed as revealed by the opinion reports on the beneficiaries. The LCs are established in favor of only those beneficiaries who were indicated in the project report and/or financial institutions sanction endorsement. Branches should also obtain a letter from the concerned financial institution authorizing the opening of the LC and undertaking to pay for the documents under the relative LC. This letter should preferably be obtained, unambiguously worded and without any subjective clause such as borrower fulfilling certain terms and conditions, etc. Note: Branches also be guided by the guidelines being issued by the International Banking Department, Head Office and Reserve Bank of India in this regard from time to time.

EXPORT LETTERS OF CREDIT

Credits established in favor of Indian residents by persons resident outside India for purchase of goods and services are referred to as Export Letters of credit. Such letters of credit may be received for the following purposes: 1. For physical export of goods and services from India to a foreign country. 2. For execution of projects (project exports) outside India by Indian exporters by supply of goods and services from India or partly from India and partly from outside India (third countries). 3. Towards deemed exports where there is no physical movement of goods from India but the supplies are being made in India to a project financed in foreign exchange by multilateral agencies. 4. UN Organizations or projects being executed in India with the aid of external agencies.

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5. For sale of goods by Indian exporters with total procurement and supply from outside India (merchanting trade by an Intermediary). 6. In all the above cases there would be earning of foreign exchange. Banks in India associate themselves with the export letters of credit in various capacities such as Advising Bank, Confirming bank, bank nominated for effecting settlement under LC, Transferring bank or as Reimbursing bank or as Remitting bank. 7. In every case the bank will be rendering services not only to the Issuing bank as its agent / Correspondent bank but also to the exporter in advising and financing his export activity.

GUIDELINES FOR SCRUTINY OF DOCUMENTS UNDER EXPORT LETTER OF CREDIT

Scrutiny of documents presented under a Letter of Credit is a crucial and sensitive function of banks in entire credit operations, particularly for the Issuing Bank and the Confirming Bank. Decision to make payment or not against the documents presented will depend solely on the result of this scrutiny. Hence, the person scrutinizing the documents must be vigilant and give his undivided attention to the matter. He should have complete and comprehensive information and knowledge of the conditions of the relative credit, provisions of UCP 600, URR- 725, ISBP681 and their implications. Since in credit operations the basis of dealing is only documents and not goods a small omission, commission or negligence can lead to substantial losses and embarrassment to the bank, His primary responsibility is to scrutinize the documents vis--vis the conditions of credit and applicable UCPDC and ISBP provisions only and decide whether they appear on their face to be in accordance with the terms and conditions of the credit or not. 53

If they are discrepant he must give the details thereof (all at a time) and inform the presenter of the documents accordingly and hold the documents at his end at presenters disposal or return them. He must also have a comprehensive knowledge of banking operations and provisions of Trade and FEMA 1999 Regulations. This is equally important because, at times banks may refer to discrepancies seeking his authority to waive or the applicant may authorize him to waive certain discrepancies. In such situations he must be in a position to decide which discrepancy can be waived and which discrepancy cannot be waived.

STEPS PRECEDENT TO SCRUTINY OF DOCUMENTS

1. As soon as the documents are presented, identify the letter of credit against which the relative documents are presented. Generally, it will be apparent from the forwarding schedule of the remitting bank or beneficiary. 2. Even if it is omitted (particularly in case of documents sent on collection basis) the relative LC number can be identified from the notations appearing on draft or invoice or transport or other documents. 3. Take out the relative LC together with all the amendments effected and prior authorizations given for waiver of discrepancies. 4. Arrange all of them in chronological order and go through them so that a broad idea of operative (amended) terms and conditions of LC is formed. 5. Check whether all documents listed in the forwarding schedule are received or not. If not, inform the same to the presenting party.

SCRUTINY OF DOCUMENTS---GENERAL
Before scrutiny of individual documents presented, an overall scrutiny of documents with reference to the general conditions of the credit and the basic necessities of documents should be verified.

CHECK WHETHER:
1. All documents called for are submitted.

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2. All documents are submitted in the requisite number of copies (Take into account for duplicate set/ second mail that may be following) 3. Documents are issued by the persons specified/ required to issue. 4. Documents, where necessary and stipulated, are dated or not, if they are dated, the dates should be consistent with the terms of LC or otherwise. 5. Documents, whether necessary and stipulated, are manually signed. 6. Material alterations/additions on documents are properly authenticated. 7. The requisite and stipulated documents are originals or marked as originals and appear to be signed (Article 3 and 17) 8. All documents, on their face appear to be in compliance with the terms and conditions of the credit. 9. Shipment is effected within the time stipulation or not, if it is an installment credit whether the requisite quantity is shipped within the stipulated schedule (Article 32) 10. Any partial shipment is effected? If so, whether it was permissible under LC (Article 31) 11. Documents are presented at the place of expiry stipulated. 12. Documents are presented within the expiry date (validity) of the credit, if documents are presented to the nominated bank on an extended validity date in terms of provisions of Article 29, the nominated bank must provide the issuing bank or confirming bank with a statement on its covering schedule that the presentation was made within the time limits extended in accordance with Article 29(a). 13. Documents are presented within the time stipulations indicated in LC or the provisions of Article 6 and 14 of UCP.

MEASURES FOR ENSURING PROPER PAYMENT OF BILLS UNDER LCS ESTABLISHED.

In order to ensure that LC business does not eventually lead to irregularity, the following precautionary measures are required to be taken. Building up of adequate resources / funds to meet the LC liability on due dates.

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 While issuing LCs / sanctioning LC Limits, it should be kept in view as to how the applicant is expected to meet his commitment after the bills under the LCs are received and ensure that adequate resources are built up over a period of time (i.e. before the LC bills are received) in the form of margins based on the operating cycle of the activity / unit. If possible, wherever felt necessary to safeguard banks interest, a separate account may be opened and cash margins and the subsequent cash flows be deposited in the account to ensure that adequate funds are available to meet the relative LC liability alternatively, Drawing Power may be earmarked to build up adequate funds for retirement of bills under LCs. In case of devolvement, consequent upon the cash flows not materializing and irregularity in the account, fresh LCs should not be established without the specific approval of the competent authority. It is also observed that devolvement of LC bills occur on account of the due dates of bills getting bunched and maturing within a particular period. While opening LCs, it is necessary that the receipt of goods is directly related to factors such as: Consumption, Lead time for delivery, Economic / minimum order quantity etc., The cash flow being adequate to service the LC bills on the due dates and accordingly it should be ensured that the opening of the LCs is spaced properly.

It is our experience in the past that LCs are opened to the full extent of limit within short period and when the whole of them devolved, the accounts were rendered irregular. It is, therefore, important that LCs are opened in such a manner that all the bills do not mature at almost the same time, thus creating a mismatch in the cash flows and customers ability to retire the bills on due dates

RETIREMENT OF BILLS NEGOTIATED UNDER LCS FOLLOW UP:

Branches should scrutinize on receipt all documents negotiated under the Banks LC for any discrepancies and non-compliance of terms and conditions. If necessary, they should consult the applicant whether to retain the bills or return them in the event of discrepancies. 56

Discrepancy pointing out should be also seen by Branch Manager or a senior level Officer to ensure the tenability of discrepancies pointed out with reference to the proof of UCPDC. Branches should take immediate steps to protect Banks interest in the goods in case payment is not made by the applicant on presentation of the bills. These steps will include advising the railway authorities or the transport company of the Banks interest in the goods and ensuring continuance of insurance covering the goods for the risks of fire, theft, etc. Bills drawn under letters of credit will be retired on receipt by debit to the applicants account. Only a reasonable period should be allowed to importers for retirement of bills drawn under letters of credit. A period of FIVE days is recommended for this purpose. This stipulation should be advised to the customers and tie up of funds looked into at the time of opening letters of credit. Request for time for retirement of bills till the arrival of the goods can be entertained on being satisfied that the bills would be paid immediately on the arrival of goods. In the meantime, necessary confirmation of the drawees that the documents are in order and are acceptable to them should be obtained and recorded at the branch. In case where unsatisfactory features are noticed in the conduct of the facility such as the bills remaining outstanding even after the arrival of the goods, the matter should be immediately reported to the controlling authority. IN THIS CONNECTION, ATTENTION OF THE BRANCHES IS INVITED TO THE FOLLOWING ENDORSEMENT ON IMPORT LICENSES:It is a condition of this license that when an irrevocable credit is opened by the holder of the license to finance the import of any goods covered thereby, then the authorized dealer in foreign exchange through whom the credit is opened shall be deemed to be a joint holder of this license to the extent of the goods covered by the credit. Thus, where letters of credit have been opened against a valid import license and on arrival of goods, the license holder does not honor the bills drawn against the letter of credit and does not produce the license for the clearance of the goods, The branch which has opened the LC will be able to clear the goods through the Customs and remit foreign exchange to the foreign suppliers in whose favor the credit was opened, by debit to the licensee account in question. 57

For the purpose of clearance of goods, the branch will provide the customs with certificates together with the exchange control copy of the license to the effect that the import has been made and foreign currency has been remitted by the branch under the authority of a valid import license and a confirmed irrevocable letter of credit. DEVOLVEMENT OF LC BILLS FURTHER to above, the following approach should be adopted by branches to avoid problems arising from devolvement of lcs and the resultant excess drawings in the relative accounts. The limits for demand LCs and usance LCs should be assessed separately with ample justifications. The usance period should not, generally, exceed the production cycle. In case of bulk imports, establishment of LCs for longer usance period may be considered selectively. When liability under LC is met by creating an irregularity in the Cash Credit account, the relative LC limit should not be released for opening further LCs till the account is adjusted. In case of devolvement, if the irregularity in the account is not adjusted within 15 days, or if the LC devolved earlier is not adjusted, no further LCs should be opened without adequate margin. A margin of 25% should be the minimum applicable in such cases. In cases where borrowers are found to have defaulted without sufficient reasons, margin should be stepped up to, say, 50% and above. In persistently defaulting cases, cancellation of LC limits should be considered. Excess liquidity available during the usance period of LCs enables the borrowers to divert short term funds, which lead to devolvement. To overcome this, lien has to be marked for the outstanding usance LC bills on the advance value of stocks, as a general rule and Sanctioning Authority not less than HOCC-II can permit to mark lien on market value of stocks on a case to case basis. Where usance LC facilities are sanctioned, this should be borne out by the appraisal data relating to sundry creditors. As it would have a bearing on the level of sundry creditors, this aspect will have to be examined from that angle, while assessing WC facilities.

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The transactions in the account and the Financial Follow-up Returns (FFRs) should be closely monitored to check diversions. Branches should not permit excess drawings in accounts which show persistent irregularity due to devolvement of LC bills. The practice of allowing excess drawings against the credits made in the account, leaving the existing irregularity unadjusted, should also not be permitted. In case of sick/weak units, requests for usance LC facility should be examined with greater care. Implementation of the above mentioned control measures to check the incidence of LC devolvement should be monitored at periodic intervals by the Module Heads / Credit Department.

SPECIAL CLAUSES TO BE ADDED WITH REGARD TO LC SANCTION ADVICE. The following clauses may be added while advising sanction of LC facility to borrowers. Borrower should take steps for arranging payment of LC bills on due date and to ensure this, Bank may insist on funding of payments through a separate account prior to due date. Bank reserves specific right not to deliver documents even under Usance LC in case there are earlier devolvements and the entire risk for demurrage or any other charge shall be the sole responsibility of the borrower. Bank reserves the right not to open fresh LCs or to raise the cash margin even within the sanctioned limit, if the accounts are irregular or bills under LCs devolved upon the Bank earlier.

THE FOLLOWING TO BE ENSURED BEFORE SENDING/DISPATCHING THE LC (BY THE BRANCHES) :

i) As all documentary credits (LCs) are subject o Uniform Customs and Practices for documentary credits (UCPDC) this notice is to be stamped / mentioned on the face of the LC. Particulars of import license (if any) Full and correct address of the beneficiary.

ii) iii)

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iv) v) vi) vii) viii) ix) x) xi) xii) xiii)

Precise description of goods. Amount, price and value of goods in words and figures. Certificate of origin of goods required. Mode of transport Sea / Air / Road / Rail. Last date of shipment of goods / negotiation of documents. Value of goods CIF / CF / FOB and the relative currency (in case of FLC) Expiry date of LC. Payment terms of DP and DA tenor of the bill. Instructions regarding negotiation of documents and reimbursement. Documents to accompany the bill under the LC (Viz. RR, LR, Airway Bill, Bill of lading, Insurance Policy etc) and the number of copies required. Application forms should contain undertaking to submit the bill of entry and agreement for crystallization of foreign currency liability. LCs should be serially numbered beginning with branch code number and issued on printed Security Forms. Ensure that all import LCs provide for payment only against shipping documents and in case of exception RBIs prior approval is to be obtained. Import License movement register is updated / maintained. Margins are computed on landed value of goods i.e. including insurance, freight, other charges, customs duty, etc.

xiv) xv) xvi)

xvii) xviii)

CONTROL ENTRIES AND PREVENTIVE VIGILANCE ASPECTS: BRANCHES SHOULD ALSO ENSURE THAT PREVENTIVE VIGILANCE ASPECTS ARE COMPLIED WITH IN REGARD TO OPENING OF LCS

BY PASSING OF CONTROL ENTRIES: Debit: Constituents liability for LCs A/c Credit: Acceptance for Constituents for LCs A/c

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 Establishing the LCs under signatures of two officials one of whom should be the Branch Manager / Divisional Manager (for LCs of Rs. 50, 000 and above). Maintenance of progressive balance position (to tally with General Ledger figure and party wise liability register). Statement of LCs issued and LC limits established during the month to be sent to controlling authority. Opening of LCs only on security forms. Holding the LC Security forms in joint custody of two officials.

CRYSTALLIZATION OF BILLS:IMPORT BILLS:

a.) On receipt of all sight import bills drawn under LC, branches should
scrutinize them to check whether the documents are drawn in conformity with the terms of relative LCs and then advise the importer (applicant of LC) on the same day or latest next day of receipt of the documents and discrepancies, if any. b.) These documents should be held at the branch for 10 days from the date of receipt. If the documents are not retired by importer on 10th day or on the succeeding day, if the 10th day happens to be a holiday, the branch should convert foreign currency liability under the bills into rupees at the banks bills selling rate (as on the 10th day / forward contract rate, as the case may be) and report the transaction to Treasury Department (Forex), Mumbai. c.) The rupee liability thus crystallized should be debited to the importers Cash Credit or any other account as arranged for. Any irregularity on account of excess drawings over the available drawing power or the sanctioned limit, arising on account of debit of such crystallized liability should be promptly reported by branches to their controlling authorities and seek instructions regarding further operations in the account. The matter also should be immediately taken up with the importer for immediate adjustment of the irregularity.

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d.) The above procedure should also be followed even in case of Usance import bills under LC if such bills remain unpaid on due dates. e.) Branches should continue to collect interest at cash credit rate for the period starting from the date of debit to Nostro account till the date of crystallization to Rupee liability plus charges as prescribed by Treasury(Forex) Mumbai for funding Nostro a/c and remit the same to Treasury(Forex) Department, Mumbai. They should also collect commission from the importer as per the extant prescribed rates at the time of crystallization or at the time of retirement of the bill. Note: Branches should maintain proper record of the date of receipt of the documents to avoid any controversy / dispute with the importer at a later date.

Inland Bills: In case of Inland LC where the importer / applicant of LC is not in a position to immediately retire the bills received under the LC, the Bank, after obtaining the express consent of the borrower should debit the amount of the bills to the Cash Credit account of the borrower. Concurrence of beneficiary / negotiating banks to be obtained before cancellation of unutilized LC / partly utilized LC.

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DOCUMENTS THAT ACCOMPANY LETTER OF CREDIT

DOCUMENTS USED IN INTERNATIONAL TRADE FINANCIAL DOUCMENTS Performs the function of obtaining finance, collection of payment. The most common financial document used is a Bill of Exchange. A B/Ex is also referred to as DRAFT or HUNDI. In many countries a B/Ex is recognized as a legal document. In India, Section 5 of NI ACT 1881, defines B/Ex. It has 3 basic parties: DRAWER DRAWEE PAYEE It has 5 important characteristics: It is an instrument in writing. It is an unconditional order signed by maker (drawer) It is a direction given to a specific person (drawee) It is made payable to a certain person or to his order or bearer.

DRAFT (BILL OF EXCHANGE)

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It should bear a date. It should be drawn by beneficiary or any other person authorized in this regard. It should be signed by the drawer. It should be drawn on the applicant or any other specified drawee. It should be drawn unconditionally and should be free from any extraneous conditions. It should be drawn for a specified amount and should be consistent with the terms of the drawing permitted in the Credit. It should be drawn payable to a specified payee and properly endorsed. It should be drawn payable at tenor specified in the credit. Where stipulated, it must indicate that it is drawn under the credit of the bank concerned. It should unless otherwise specified, be drawn in the same currency as invoice/LC. FUNCTIONS OF A B/EX COLLECTING PAYMENT: The basic function is to show that there is a commercial or trade transaction underlying the B/Ex drawn. It is an instrument for collecting payment arising out of such a transaction. DEMANDING PAYMENT: When a payment is due from a person and it is presented to the drawee for payment It amounts to having made a demand on the drawee to pay the amount. EXTENDING CREDIT: It can be made payable at sight or at a future date (Tenor). When it is drawn for a particular tenor it means that the drawer is allowing the drawee (buyer) to make payment at a future date.

PROMISES OF PAYMENT:

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Certain B/Ex are drawn on acceptance basis i.e. the drawee will be given the documents upon his acceptance to pay the bill at a specified tenor. Such an accepted B/Ex is evidence of promise of payment by the drawee. RECEIPT FOR PAYMENT: When the amount shown on a B/Ex is paid by the drawee, the payee endorses the B/Ex as RECEIVED PAYMENT and hands it over to the drawee. Such a discharged B/Ex acts as a RECEIPT for having paid the amount stated thereon. In certain countries it is discouraged because it attracts heavy stamp duty (even if it is drawn on sight basis). In International trade B/Ex is drawn in sets of two. So that each one can be sent with one set of documents. EACH ONE BEARS THE EXCLUSION CLAUSE making the other part of the draft invalid. The first of exchange contains the words The second of the same tenor and date unpaid or similar words. STAMP ACT As per Indian Stamp Act usance B/Ex drawn or made payable in India attract stamp duty. The stamp duty payable varies according to tenor and value of draft. B/Ex drawn in favor of banks for the purpose of Discount/ purchase or for securing finance thereof attract lower rate of stamp duty. For the purpose of determination of stamp duty foreign currency bill amounts must be converted into rupees at the exchange rates announced by Ministry of Finance, Dept of Revenue under Section 20(2) of Indian Stamp Act 1899.

TWO CATEGORIES OF B/EX SIGHT B/Ex: Also known as Demand B/Ex. The drawee has to make payment on presentation/sight/demand. Documents dawn under this credit will be delivered to the payee only on payment. USANCE B/EX:

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Also known as TENOR or TIME B/Ex. The drawee is directed to make payment after a stated number of days or a period from a particular date or event.

COMMERCIAL DOCUMENTS 1. COMMERCIAL INVOICE: (DOCUMENT OF CONTENTS).. ARTICLE 18. Issued by: The beneficiary of the Credit. Contents: Description and value of goods and terms of sale and other details. Order number/contract number/ proforma invoice as stipulated in the credit. Purpose: To evidence the manner in which the drawing under the Credit is made up and to evidence the sale of goods in the terms required by the credit. It is made out by the beneficiary or other authorized persons as stipulated in the LC. It should unless otherwise specified be made out in the name of the applicant. It need not be signed. Description of goods specified must correspond with the description in the LC. Quantity of goods, unit prices, delivery terms must correspond with the LC terms and be consistent with other relative documents. It should be drawn in the same currency as LC unless otherwise specified.

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It should not include any charges which are not permitted by LC. As per stipulations of LC, the gross value of invoice should not exceed the credit amount. It should show deduction towards advance payments made, agency Commission payable etc. as applicable. Arithmetic calculations should be accurate. Final amount of invoice or the percentage of drawing as permitted in LC should correspond with the draft amount (Art 18) If partial shipments are effected, amount of drawings should preferably correspond to proportionate quantities shipped (where only quantity is mentioned without unit prices) Data in a document when read in context with the credit, the document itself and international standard banking practice, need not be identical to, but must no conflict with, data in that document, any other stipulated document or the credit (ART 14 (d) It must certify to facts like Origin of goods as stipulated in the LC. If a commercial invoice is issued for an amount in excess of the amount of the credit, a nominated bank, a confirming bank if any, or the issuing bank may accept such commercial invoice, and its decision will be binding upon all parties, provided the bank in question has not honored or negotiated for an amount in excess of that permitted by the credit (Art 18 (c)

2. CERTIFIED INVOICE Issued by: Beneficiary of the Credit. Content: As per commercial invoice together with certification by the BENEFICIARY or third party in terms of the Credit. E.g. a beneficiary may be required by the Credit to certify that the contents are correct and in terms of the proforma invoice. Purpose: To satisfy a specific concern of the buyer as stipulated in the Credit.

3. CUSTOMS INVOICE It is required by countries like U.S.A. Canada.

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To be drawn in a specific form supplied by the consular office of the importers country. This facilitates entry of merchandise into the importers country at preferential tariff rates. 4. CERTIFICATE OF ANALYSIS Issued: By the party as stipulated in the Credit. Content: Relates to the ANALYSIS OF GOODS as required by the relevant trade. E.g. INCLUDES DETAILS OF TEMPERATURE AND CHEMICAL CONTENT. Purpose: To satisfy Applicant/end buyers/and import control authorities so that goods confirm to the desired standard/ quality/ analysis.

5.CERTIFICATE OF WEIGHT Issued: By the party as stipulated in the Credit. Required in case of bulk goods like iron ore, food items etc. Content: Stipulations will relate to the gross and net weights of packages. Purpose: To satisfy Applicant, End buyers, Clearing agents or carriers. 6. INSPECTION CERTIFICATE Issued: By the party as stipulated in the Credit. In India certain goods are statutorily subjected to quality control and preshipment inspection. An agency EXPORT INSPECTION COUNCIL was created. EIC nominates certain agencies to issue inspection certificates. Content: Stipulation will relate to whether the goods inspected by sample or otherwise. Have reached the standards required as shown on Credit.

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Credit should not call for LC to be issued qualified competent or wellknown agency If credit calls for such a certificate it can be issued by anybody other than the beneficiary. Article 3. Purpose: To satisfy Applicant/end buyers/import control authorities. DATE IN A DOCUMENT A certificate of analysis, inspection certificate and pre-shipment inspection certificate may be dated after the date of shipment. However, if a Credit requires a document evidencing a pre-shipment event . (E.g. Pre-shipment inspection certificate), The document must either by its title or content indicate that the event (e.g. INSPECTION) took place prior to shipment or on the date of shipment. Documents must not indicate that they were issued after they are presented. (Para 14 of ISBP 681). 7. PACKING LIST Issued: By the party as stipulated in the Credit. Content: Details of the packaging of goods. Purpose: To satisfy the Applicant/ clearing agents or customs authorities in the country of import. Easy identification of goods and to enable spot checks to be made of the content of the packages by Customs.

DOCUMENTS FOR OFFICIAL PURPOSES

Applicant may require documents to satisfy IMPORT REGULATIONS. Beneficiary may require documents to satisfy EXPORT CONTROL REGULATIONS. There may be a stipulation in the Credit for documents to indicate: IMPORT LICENCE NO. DOC CREDIT NO. SHIPPING MARKS AND NOS. These are essential for speedy clearance and delivery of goods to the needs of the buyer.

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CERTIFICATE OF ORIGIN CONSULAR INVOICE LEGALIZED INVOICE EXPORT LICENCE HEALTH CERTIFICATE

1.CERTIFICATE OF ORIGIN Certificate of origin is the document in case of imports to determine the origin of goods. It must be issued and signed by an independent authority such as Chamber of Commerce indicating the origin of goods. The Country of Origin certified must be as per credit requirement and consistent with the declaration given by the Beneficiary in his invoice/ other documents. It must indicate the description of goods and should be consistent with other documents. It must indicate the name of consignor/ seller and name of consignee/ buyer. Details appearing in the document must be consistent with the details appearing in the other documents. Issued by: A party as stipulated in the Credit. Usually a Chamber of Commerce or other official body, Export Promotion Council, Trade Association and not by the Beneficiary. In the absence of a stipulation in the Credit, the document may be accepted. Content: Shows the country of origin of the goods. To determine the concessional tariff rates applicable to the goods. Purpose: To enable the importer to receive the benefit of reduction of import duties where this is possible. And to satisfy customs and import requirements in the country of the Applicant or end buyer. CERTIFICATE OF ORIGIN ENSURES THE FOLLOWING PURPOSES: Some countries may not wish to use the goods of a particular country or enemy country. Some countries may not wish a particular country to export the goods manufactured in another country. To avoid intermediary trade or avoiding competition from the goods manufactured by a competing country and to encourage their own industry.

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Some countries may allow import of goods, manufactured in certain countries at concessional tariff rates (e.g. Generalized System of Preference Scheme of GATT). The certificates are issued under the ambit of the RULES OF ORIGIN of any importing country that grants such concessions to tariffs or merely stipulates a non preferential certificate without granting any tariff concession. This Agreement on Rules of Origin are within the framework of the WTO. Various countries have formulated their Rules of Origin which grant greater access to goods from the developing countries and the least developed countries under preferential mode. TWO CATEGORIES OF CERTIFICATE OF ORIGIN: Preferential and Non preferential. 1. GENERALISED SYSTEM OF PREFERENCES Developed countries extend tariff concessions to developing countries. Like United States, European Union, Canada, Australia, Switzerland 2.GLOBAL SYSTEM OF TRADE PREFERENCE Trade concessions are exchanged among developing countries, who have signed the agreement. Export Inspection Council is the sole agency authorized to issue Certificate of Origin under GSTP. The Agreement establishing SAPTA was signed by seven SAARC Countries India, Pakistan, Nepal, Bhutan, Bangladesh, Sri Lanka and Maldives. The Bangkok agreement to liberalized trade in ECONOMIC AND SOCIAL COMMISSION-relaxation of tariff and non tariff barriers. A FREE TRADE AGREEMENT (FTA) between India and Sri Lanka- Customs tariff concessions by the Government of Sri Lanka and India. EXPORT INSPECTION COUNCIL is the sole agency to issue the certificate of origin under ISLFTA. 2. CONSULAR INVOICE

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Issued by: Usually the Beneficiary and countersigned by a Chamber of Commerce and Embassy or Consulate of the importing country residing in the country of export. Content: Describes the details of goods and price. Purpose: For the records of the country of import. Accordingly this document may be required for clearance of goods at the destination. Special type of invoice required by certain countries like PHILIPPINES AND SOUTH AMERICA. To give an accurate record of the type of merchandise shipped, their quantity, value to facilitate fixing of duties in the importers country. Used for statistical purposes, to avoid delay on account of customs inspection in the importers country. As its correctness has already been verified by the consul of that country. 3.LEGALIZED INVOICE Issued by: The Beneficiary in terms similar to a commercial invoice and in terms of the Credit with the exception that the invoice must evidence that it has been legalized by the Embassy of the country of import in the country of export. Content: As per commercial invoice together with the legalization notation is effected either by a NOTARY OR EMBASSY OR CONSULATE OF THE COUNTRY OF IMPORT. Purpose: To satisfy the control authorities of the country of import. Legalization may also be extended to other documents such as shipping company declaration or insurance company declaration concerning the carriers or insurers called as VISAED Invoices. This is legalized (stamped and attested) by the Consul of the importers country, situated in the exporters country. Not very much different from the consular invoice as this too facilitates entry of merchandise into importers country at preferential tariff rates. But this invoice is not in a prescribed form like consular invoice. Mostly required by MIDDLE EAST COUNTRIES. 4.HEALTH CERTIFICATE Issued by: As specified in the Credit.

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Content: These documents are usually issued to cover export of live cargo, plants, herbs and are generally issued by an AUTHORIZED BODY in the country of export. Certification may include statements regarding fitness to travel, good health and contamination. Other certificates are Phytosanitary / radiation/ fumigation (to disinfect) certificates. Purpose: To satisfy the authorities in the countries of export and import or the importer or the end buyer.

TRANSPORT DOCUMENTS CHARACTERISTICS

Banks give undertaking to the beneficiaries that they will honor their commitment under documentary credits. So ISSUING BANKS assume the risk of the buyers insolvency and take upon themselves the problem of recovery of money from the buyer. Where shipping documents include B/L which can provide transfer of title to the goods to banks, they may have the means of obtaining possession of the goods for RESALE. BILL OF LADING A formal receipt which evidences a contract of carriage. A receipt for the goods. It is a document of title to goods. B/L is called QUASI NEGOTIABLE instrument. Though the title to goods can be transferred by endorsement and delivery of the instrument, it is governed by a SALE OF GOODS act. When goods are transferred from one person to another, the transferee gets no better title to the goods than that of the transferor. Whereas under NI Act the transferee gets a better title than the transferor provided he takes it in good faith and for due consideration. 73

B/L are issued in a set of 2 or 3. The exact number of originals issued is indicated on each B/L. These are called NEGOTIABLE B/L. Presentation of any one of them will entitle the holder to claim the goods there under and render the other negotiable copies void. Production of one copy of negotiable B/L is a must for claiming the goods. Bill of Lading is one of the most common transport documents called for under the LCs. However, there are various types of Bills of Lading. Articles 19 to 27 apply to transport documents and deal at length with type of BLs which will be accepted and what will not be acceptable. It is to be clearly understood that a Marine BL which is also known as Ocean BL or BL covering carriage by sea is one which is issued only when the goods are being transported from one sea port to another sea port (i.e. port to port voyage by sea) On the other hand other BL such as Combined transport BL or Port to Port BL are those which are issued for movement of goods from one place or port to another place or port with one leg of transaction by sea voyage. Accordingly UCPDC lay down different norms of acceptability or otherwise to Marine BL and other types of BL. Hence in the checklist given below the specific features applicable to Marine BL are explained:

Every BL must:
Be issued by a named carrier or his named agent. Bear a distinct number. Indicate the place of issuance. Indicate the date of issuance. Be signed by named carrier or his named agent or by the master or a named agent for or on behalf of the master. Indicate the name of consignor. Indicate the name of consignee. Indicate brief description of goods being carried. Indicate port of loading or taking in charge to the port of discharge stated in the credit.

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 Be presented in full set of originals (full set comprises two or more originals issued to consignor of goods, all of which are marked as ORIGINALS and signed. The number of copies of originals issued is indicated on the BL itself). Meet all other stipulations of the credit. Must indicate whether Freight Prepaid or Freight Payable BL should not (Unless otherwise specified by Terms of LC) be a Charter Party BL (Art 20 (a) (vi) or be a Claused BL. BILL OF LADING can (Unless otherwise Prohibited or is inconsistent with other terms of LC): Contain terms and conditions of carriage or make reference to another source containing the terms and conditions of carriage (Short form or blank BL). Art 20 (a) (v). Indicate a place of taking in charge different from the port of loading and/or a place of final destination different from the port of discharge Art 20 a iii a. Indicate that the goods are carried in containers trailers or LASH barges. Contain a notation that the goods may be carried on deck provided it does not specifically state that they are or will be loaded on deck Art 26 (a). Indicate that the goods will be transshipped provided the same BL covers the entire carriage Art 20 (c) (i). Evidence freight prepayment by a stamp or otherwise on BL to that effect like Freight Prepaid. Bear reference by stamp or otherwise to costs additional to freight charges. Show clauses such as shippers load and count or said by shipper to contain etc with reference to goods covered by BL Art 26 (b). Show shipper as a third party other than beneficiary. Art 31(iii).

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 Be deemed as Clean on Board if it is an on board BL without any super imposed clauses or notations expressly declaring the defective condition of the goods and or the packaging.. Art 27.

OTHER ASPECTS OF BL
ON BOARD BL
Acknowledges the goods have been put on board a ship for shipment. A safer document for the importer, a good delivery under a sale contract for an exporter. This BL will have a notationShipped on Board. An On Board BL must specify the name of the vessel. If a BL is issued as an On Board BL it must indicate the name of the carrying vessel.. Art 20(a)( ii). Date of issue of BL or ON BOARD notation should be dated prior to the shipment date permitted under the LC. Shipping marks, Gross weight, net weight specified on BL must correspond to those specified in other documents.

SHORT FORM BL
This BL does not state the terms and conditions of carriage printed on it. It may be by reference to other documents or source. States name of shipper, name of the ship, date of shipment only. Generally CHARTER PARTY BL since they are governed by terms and conditions of charter party. A charter party BL need not show the name of the carrier. A bank will not examine charter party contracts, even if they are required to be presented by the terms of the credit Art 22 (b). Some credits specify prohibit acceptance of short form BL or blank back.

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CLEAN BL
Bears no super-imposed clause or notation which expressly declares the defective condition of the goods or packaging. This BL indicates that the carrier has received the goods in apparent good order and condition. Since the CARRIER acts as a bailee of the goods by issuing Clean BL he has to deliver the goods in the same good order and condition.

CLAUSED BL
The ship owners or their agents can disclaim their liability to deliver the goods in good order and condition. Not acceptable.

THROUGH BL
A BL issued for the entire voyage covering several modes of transport. Used when the goods have to take more than one mode of transport. No guarantee of carriers for the safe carriage of goods.

RECEIVED FOR SHIPMENT BL

Merely acknowledges that the goods have been received by Ship owners or their agents for shipment. The goods received might be stored in a ship or warehouse of a ship owner/ his Agents. No guarantee that the goods will be carried by the ship named there under. Not a safe document since it many not be considered to be a good delivery under a sale contract. A BL Received for Shipment can be treated as an On Board BL if Received for Shipment BL is affixed with ON BOARD notation duly signed or initialed and dated by the carrier or his agent Art 20 (a)( ii).

STRAIGHT BL

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A BL issued directly in the name of the consignee. The goods will be delivered to the named consignee. Does not require any endorsement either in blank or by the shipper. Not a very safe document.

LASH BL
Issued by operators stating that the goods are received and put on board a barge. (A barge is a flat-bottomed boat, built mainly for river and canal transport of heavy goods.) To be carried and put on a parent vessel. Same as a RECEIVED FOR SHIPMENT BL until it bears a clause stating that the barge is put on board the parent vessel (Then it becomes an ON BOARD BL AND BECOMES ACCEPTABLE.)

AIRWAY BILL
Acknowledgment issued by an Airline Company or their agents (not forwarding agents) stating they have received the goods detailed therein for dispatch by Air to the named consignee at the address stated therein. It is not a document of title to goods because it is merely an acknowledgement of goods. Not a negotiable document hence it is not necessary for a consignee to possess the AWB for taking delivery of goods. For shippers the AWB is not as safe as a BL. It is obligatory on the part of the Airlines to notify the consignee on arrival of goods and they deliver to the consignee or his order on proper identification. AIRWAY BILL OR HOUSE AIRWAY BILL It must show the name of the carrier Art 23. It must be issued by a named carrier or his agent.

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 It must indicate the place of issuance. It must indicate the date of issuance. It must be signed by a named carrier or his named agent. Any signature by the carrier or agent must be identified as that of the carrier or agent. It must indicate the name of the consignor. It must indicate the name of the consignee (and not that of the consignor or his order). The AWB submitted must be Original No. 3 meant for shipper/ consignor. It must indicate port of loading and discharge. It must give brief description of goods being carried and not inconsistent with other documents. Must comply with all other specific requirements of LC. Must indicate notify parties as stipulated in the LC. It should not be a charter party AWB. It should not be claused. (It should be CLEAN AWB) Unless prohibited by the terms of LC: It can be short form AWB or Blank backed AWB. It can bear reference by stamps or otherwise to cost any thing additional to freight charges. It can contain words like SAID BY SHIPPER TO CONTAIN or shippers load and count. It can show the consignor as a third party other than beneficiary. It must show the shipping marks or packages, number of packages, gross weight, and net weight. It must indicate whether freight is prepaid or payable at destination.

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 In case of HAWB ( whether specified) it must show the name of Airlines, Master Airway Bill number, the flight number, consolidators IATA registration number. It should be remembered that an air transport document must appear to indicate the date of issuance. This date will be deemed to be the date of shipment unless the air transport document contains a specific notation of the actual date of shipment, in which case the date stated in the notation will be deemed to be the date of shipment. Art 23 (a) (iii). AIR CONSGIGNMENT NOTE It is called as AIR RECEIPT. Issued by forwarding agents. Shows the departure and the destination stations as well as the name of the shipper and the addressee. It must also indicate forwarding station and date stamp. HOUSE BL/SEAWAY Issued by an association of forwarding agencies or non vessel owning carriers (shipping people) who combine their resources to acquire and operate expensive transport vessels. Such BL are safe only when they are issued subject to ICC Rules.

HOUSE AIRWAY BILL In case of HAWB (whether specified) it must show: The name of Airlines, Master Airway Bill number, The flight number, Consolidators IATA registration number. But the liability of the carriers in this case is limited. It is a receipt for goods issued on the same lines as Airway bill by CARGO CONSOLIDATING AGENTS. When air cargo is shipped under consolidation, the AIRLINE COMPANY issues an Airway Bill called MASTER AIRWAY BILL to the CONSOLIDATING CARGO AGENT. He in turn issues his own HOUSE AWB to individual shippers.

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Thus HOUSE AWB is a receipt for goods issued not by the actual carriers or their agents but an intermediary cargo consolidating agent. It is not safe. In case the consolidating agent fails to pay the freight, the carriers will have the right over the goods and the holder of House AWB will not get the goods.

AIRWAY BILL It should be remembered that an air transport document must appear to indicate the date of issuance. This date will be deemed to be the date of shipment. Unless the air transport document contains a specific notation of the actual date of shipment, in which case THE DATE STATED IN THE NOTATION WILL BE DEEMED TO BE THE DATE OF SHIPMENT. Art 23 (a) (iii). MULTIMODAL TRANSPORT DOCUMENT Movement of goods involves more than one mode of transport. It is called as INTER MOBILE or Combined Transport document. The carriers take the liability for safe conduct of transport of goods by various modes. It is a Negotiable document issued in sets.

INSURANCE DOCUMENT
The decision as to whether the Beneficiary or the Applicant pays for and arranges the insurance of goods depends upon a number of factors. Where the sales contract evidences that goods are sold either on a CIF Basis or on a CIP Basis (Carriage and Insurance paid to) an insurance document should be normally shown as a stipulated document required by the Credit. It must be issued only by an insurance company or an underwriter or their agents or their proxies Art 28(a). It must be signed by the issuer ART 28(a). It must be dated. 81

 Date of its issuance must be on or before the date of shipment or it must be evidenced by specific notation that the cover is effective from a date not later than the date of shipment Art 28(e). The currency of insurance must be the same as the currency of the credit Art 28 (f) ( i). It must indicate the name of the assured. It must indicate brief details of the goods insured. It must indicate the mode of conveyance (Air, Sea, Road) and if possible the name of the vessel, voyage number. It must indicate the nature of risks covered and should be those specified in the credit. It should be in a negotiable form. Unless otherwise specified, it should be issued for an amount of 110% of CIF/ CIP VALUE OF THE GOODS. If such value is not determinable from the documents, the amount of the insurance coverage must be calculated on the basis of the amount for which honor or negotiation is required or the gross value of the goods as shown on the invoice, whichever is greater Art 28 (f) (ii). If it is issued in more than one original, all original must be submitted (no of negotiable copies issued are indicated in the insurance policy/ certificate) It should be endorsed in blank by the assured, if required as per terms of LC. It should indicate the port of shipment and destination or point of insurance coverage and point of termination of insurance coverage. It should not contain any clause affecting the interest of the assured/assignees. It must cover all additional risks as specified in the credit.
If the goods are on Deck. Deck shipment should be covered. Claims should be made payable in India (in case of import LC) or in the specific city specified in the credit.

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 Cover note will not be accepted. An insurance policy is acceptable in lieu of an insurance certificate or a declaration under an open cover. An insurance document may contain reference to any exclusion clause. An insurance document may indicate that the cover is subject to franchise or excess (deductible).

INSURANCE POLICY SPECIFIC POLICY: When a policy is issued for a particular voyage covering specific goods. OPEN POLICY: It is a blank policy issued by the insurers for a specified amount and period. Exporter can cover any number of shipments within the stipulated amount and period. The cover becomes effective only when details of shipment are informed in good time to the insurers. A minimum of 110% of the gross invoice value of goods and to cover the risks from the date of shipment and in the same currency of the credit.

INSURANCE COVER NOTE When a specific policy is required and the details of shipment are not known. The insurance company issues a COVER NOTE which acts as a provisional policy to be replaced by a regular policy when the details of shipment are furnished to insurers. It is valid for 3 months only. Cover notes are not a secure document as a policy and not acceptable ARTICLE 28.

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OTHER DOCUMENTS A credit may call for variety of other documents like Health Certificate, Pre shipment Inspection Certificate, Packing List, Shipping Companys Certificate, and Beneficiarys Declarations/ Undertaking. Whenever such documents are called for under the credit following aspects must be checked in the documents. It is issued by the person or authority specified in the credit. If no specific mention is made regarding issuer of the document, banks can accept document issued by any person provided their data content is not inconsistent with any other stipulated document presented. Terms such as first class, well known, qualified, independent, official, competent, or local used to describe the issuer of the document allow any issuer except the beneficiary to issue the document. Article 3. It is dated and signed by the person/ authority concerned. Whether they relate to the goods/shipment covered by the documents or not. Whether the document certifies the facts required as per credit or not. Whether the document contains wordings or data content as specified in the credit or not. Whether the details mentioned in such certificates/ documents are consistent with other documents or not.

ILLUSTRATION FOR COMPUTATION OF LC LIMIT.

M/S XYZ Co Ltd Letter of Credit limit of Rs. 20 crores (Rs. in crores)

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Total purchase of raw materials Purchase of raw materials under LC (% of above) Average monthly purchase of raw materials (A) Average holding of imported / indigenous raw materials (2.20 months consumption)

172.64 69.41 5.78

11.30 Average usance period (B) Lead time and transit period (C) Total of (B) and (C) (D) The requirement of ILC / FLC limit (A) X (D) Limit recommended 3months 1 month 4months 23.12 20.00

Explanatory notes:

1.) While calculating the amount of raw material purchased on LC basis, the following points need to be noted. (Amount in rupees) (a) Raw material consumption

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(b) Add: Closing stock of raw material (c) Less: Opening stock of raw material (d) Total Purchases during the period (e) Purchases on LC basis as percentage of total purchases (f) Purchases on LC basis in rupees (g) Import duty payable, if any (h) Purchases on LC basis net of import duty (CIF value) (F-g) 2) Transit time should be treated as nil if usance period starts from shipment date.

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