Letter of Credit

Letter of credit - the bank's obligation, provided at the request of the client, to pay a third party when the payee provides the bank executing the letter of credit with the documents stipulated by the terms of the letter of credit. The client company, on behalf of which a letter of credit is opened, is usually called the payer under the letter of credit, or the applicant. The recipient of payment under a letter of credit is called the beneficiary. At the same time, the bank's obligation is independent of the obligations of the parties under the main contract, which provides for a letter of credit form of settlement between the supplier and the buyer. Thus, the bank acts as a guarantor between them.

The letter of credit serves as a guarantee both for the timely payment for the goods to the seller, and for the receipt of the goods by the buyer in the appropriate quality, prescribed in the terms of the supply agreement.

Due to the nature of international transactions, including factors such as distance, different laws in each country, and the difficulty of getting to know each party personally, the use of letters of credit has become a very important aspect of international trade and e-commerce in particular.

Irrevocable letter of credit

One of the main and frequently used types of documentary calculations. Unlike a revocable letter of credit, a confirmed or unconfirmed irrevocable letter of credit is not revoked or changed by either party (including the bank) without the prior consent of the seller/supplier. It is considered the most reliable form of letters of credit, as it completely frees a trade and money transaction from all possible risks, primarily financial ones.

If during the course of the transaction the supplier and the buyer come to a mutual agreement, the terms of the irrevocable letter of credit may be changed.

Opening a letter of credit

To open a letter of credit account, a written application in the appropriate form is submitted to a banking organization. The statement states:

• number of the agreement under which the letter of credit is opened,
• name and details of the supplier,
• type, validity period, amount of money of the letter of credit,
• the way it is implemented
• list of shipped (provided) goods/services,
• name of the executing bank under the letter of credit obligation,
• a list of documents that will be used as the basis for disbursement of funds to the supplier.

Letter of credit agreement

Any information that can subsequently be used when making a trade and money transaction and paying for it is stipulated and strictly recorded in the agreement on the transaction, which provides for such a form of settlement:

• the name of the supplier and recipient,
• type of letter of credit used (irrevocable/revocable, covered/uncovered),
• the amount booked on the account to pay for the transaction,
• duration of the obligation
• commission amount,
• payment order,
• procedure in case of non-payment of debt under a letter of credit,

Payment by letter of credit

Settlements by letters of credit provide for the transfer of funds to the seller's account only if all the conditions specified in the contract have been met. In particular, the transfer of money to the seller's account is made after the full shipment of the goods and the provision of all required documents to the bank. In the event that the terms of the letter of credit agreement have been violated, the payer (buyer) has the right to refuse payment and return the goods to the supplier.

Nuance: a letter of credit account is opened by the buyer for his own money or with the involvement of bank credit funds (if he has the right to lend).