Page 34 - DMGT546_INTERNATIONAL_TRADE_PROCEDURE_AND_DOCUMENTATION

Unit 2: Methods of Payment and Incoterms

to ascertain the creditworthiness and solvency condition of the importer, as under the letter of Notes
credit, the onus of payment shifts from the importer to the issuing bank. Letter of credit is also
a safe and secure mode for payment for importer, as he is obliged to make the payment only
after the shipment of cargo by the exporter. The process of letter of credit works as shown in the
Figure 2.2.

Parties, Process and Papers in Letter of Credit Transaction
We can understand the process under the documentary credit under the following points detailed
as under for a better understanding:
1. The beginning:: Once the exporter and importer have agreed on the terms of a trade deal,
the importer arranges for his bank to open a letter of credit in favour of the exporter.
2. The issuing bank: The issuing bank, upon the request of importer issues the letter of credit
in favour of exporter therefore enters into a separate contract for making the payment to
exporter on the fulfilment of the terms and conditions of L/C contract irrespective of
fulfilment of export sales contract.

3. Letter of credit: A letter of credit is a contract, whereby the issuing bank makes a promise
of the payment to the exporter on behalf of the importer, provided the exporter should
comply with all the terms and conditions as laid down in the letter of credit.
4. The beneficiary: The exporter, also known as the beneficiary, reviews the terms and
conditions of the letter of credit and after manufacturing the goods and arranges with the
freight forwarder to deliver the goods to the appropriate port or airport for transporting
the cargo to the importer’s country. Once the cargo is loaded, the exporter’s freight
forwarder completes all the necessary trade documents and presents them for confirming/
advising (as the case may be) indicating full compliance.
5. Advising bank: The exporter’s bank, which corresponds with the issuing banks with all
trade documents for release of payment on behalf of beneficiary, i.e. exporter. The advising
bank is also referred to as the corresponding bank.
6. The confirming bank: The exporter, in order to avoid any kind of risks involved in
negotiation process or default or importer bank or importer country economic or political
problems used to get their L/C confirmed from a local bank. Such a bank is known as the
confirming bank and adds its promise to make payment of the trade deal to the exporter,
irrespective of any problems that may come in the way of realization of export proceeds.
7. The trade documents: The basis of letter of credit as the payment under a documentary
letter of credit is based on trade documents and not on the terms of sale or the conditions
of the goods sold. While making payment, the issuing bank verifies that all trade documents
are exactly the same are required in the letter of credit. If the trade documents are not as
required, a discrepancy exists in negotiation process of L/C, which has to be rectified by
the exporter or his bank for realization of the exports proceeds. Hence the full compliance
of the trade documents is mandatory for the release of payment under L/C.
The world is not free of corrupt people, systems, flawed regulatory frameworks and weak
economic institutions, resulting in all kind of frauds, cheating and thuggishness in case of trade
deals as well. Some unscrupulous trader may use the letter of credit as an instrument for
defrauding other and some experts may also exploit the same to create discrepancies to deny
payments to exporters. In this era of globalisation; it has been seen that LCs are prone to
discrepancies. Therefore, they should be prepared by well-trained documenters or alternatively,
such functions should be outsourced. Discrepant trade documents accompanying a letter of
credit, which may have “I-dot and T-cross”; can negate payment of export proceeds to an exporter.

LOVELY PROFESSIONAL UNIVERSITY 29