A COURT CASE ON LETTERS OF CREDIT & UCP600

Letter of Credit practitioners worldwide use ICC’s rules for documentary credits, presently called
UCP 500 and LJCP 600 from 1st July 2007. The ICC rules have introduced a measure of
uniformity into the field that was once fractured by individual country rules that rendered LC
practice different from one region to another. But the UCP are contractual rules that do not have
the force of law. Only when they are incorporated into credit do they become binding on the
parties.

That is why court decisions on Letters of Credit are of considerable importance, not only Letter
of Credit practitioners, but also to World Trade in general. While Letter of Credit practitioners
may not always agree with court interpretations of the UCP, but they are compelled to respect
them. In certain cases, ICC has been called upon to issue clarifications of its rules as a result of
what the court decides, either by way of banking commission decisions or by adapting future
UCP revisions to accommodate a court’s decision.

Here is the most famous case decided by the English Court.

Banco Santander SA Vs Banque Paribas (England 2000)

“In a deferred payment credit, is the Issuing Bank obliged to reimburse the
confirming bank, which chooses to discount the presented documents, but where
fraud is discovered before the maturity date?”

Summary of facts

Issuing Bank - Banque Paribas (Paribas)

Confirming Bank - Banco Santander (Santander)
Beneficiary - Bayferm Ltd (Bayferm)

On 5 June 1998 Paribas issued a 180-day deferred payment LC for USD18.5 million (±10) and
authorised Santander to confirm the LC. On 8 June 1998 Santander confirmed the LC and also
offered to discount the export documents for Bayferm. On 9 June 1998, Bayferm accepted the
discount offer in writing. On 15 June 1998 Bayferm presented compliant documents to
Santander, which undertook to pay Bayferm USD20.3 million on 27 November 1998. On 16 June
1998 Santander credited the discounted sum of USD19.6 million to Bayferm’s bank account and
LC proceeds were assigned to Santander. No notice of assignment was given by Santander to
Paribas, but the documents were forwarded to Paribas on 17 June 1998. On 24 June 1998
Paribas informed Santander that the presented documents included false or forged documents.
Santander then obtained a freezing order on Bayferm’s account, freezing about USD14 million.
On 27 November 1998 Paribas refused Santander’s demand for payment on the grounds that
Santander could have no better right to payment than Bayferm.

Key Issue

What precisely did Paribas request Santander to do under the relevant deferred
payment LC?

The Court had to determine a fundamental issue i.e. whether Santander was entitled to be
reimbursed under the deferred payment Credit or Santander had not acted within the authority
granted by Paribas, and would not have been entitled to be reimbursed by Paribas.

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The Court stated

“The Issuing Bank has requested the Confirming Bank to give its own undertaking to pay on 27
November 1998, in addition to that, the Issuing Bank has promised to reimburse the Confirming
Bank when it pays on that deferred payment undertking i.e. pay USD20.3 million on 27
November 1998. There is no request from Paribas that Santander should discount or give value
for the documents prior to 27 November 1998 and albeit it may not be a breach of mandate for
Santander to do so, it is upto Santander whether it does so or not. In my view the position is
that Santander had no authority from Paribas to discount and did not seek it. It was something
they were entitled to do on their own account. If they had not chosed to discount and waited
until 27 November, they would have had a defence and it is in those circumstances not open
them to claim reimbursement from Paribas”. Based purely on UCP500, the above appears to be a
logical conclusion. Had Santander not effected payment until the maturity date, it would have
had the same defence of Paribas against Bayferm i.e. no obligation to pay on the grounds of
fraud.

Comments
US position:
Interestingly, if the LC was subject to US Law, the decision could have been totally different from
the English Court’s decision. The US Uniform Commercial Code provides for an exception to the
fraud defence, and considers that the position of an assignee of a deferred payment credit is
equivalent to that of a holder in due course of a negotiable instrument.

Korean case :

Industrial Bank of Korea Vs BNP Paribas 2003

The South Korean Supreme Court held a different view that when an Issuing Bank requests
another Bank to confirm the LC, the Issuing Bank is authorising the Confirming Bank to negotiate
the documents and to pre-pay the beneficiary against compliant documents presented under a
deferred payment credit.

It appears that the crux of the problem concerning the availability of credit is that the UCP500
does not clearly set out whether financing under acceptance or deferred payment credit
permitted. It was a widely accepted fact that UCP500 was unable to address with prepay or
purchase under acceptance credit or deferred payment credit. On this issue we still are at the
beginning of Trade i.e. the LC practice is different from one region to another. To arrest the
situation, the International Chamber of Commerce (ICC) was compelled to review UCP500 for its
completeness. The UCP600 is a brainchild of ICC and would be a remedy for grievances faced by
LC practitioners.

Here is the Article No. 12(b) of UCP600 :

“By nominating a Bank to accept a Draft or incur a deferred payment undertaking, an Issuing
Bank authorizes that nominated Bank to pre-pay or purchase a Draft accepted or a deferred
payment undertaking incurred by that nominated Bank.”

Still there is a doubt that whether there could be a conflict with local laws of some countries with
regard to who should be responsible for fraud.

Ranjith Haputhanthri
Bank of Ceylon

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