In the import-export trade, the mechanism of the credit transaction may typically be described as follows. An importer places an order for the purchase and shipment of goods with a foreign seller. The importer has no reason either to trust or mistrust the solvency, reliability or efficiency of the foreign seller; he has no means of ascertaining whether in this specific
The practical effect of financing the underlying contract by way of letter of credit is beneficial for all parties concerned. The importer dispenses with the problem of advance payment, loss of interest while awaiting shipment, and fear of loss resulting from inadequate or late shipment. Subject to the problem of fraud and subterfuge, the importer is assured that payment will only be made if the foreign seller strictly complies with the terms of the credit. On the other side, the foreign seller, prior to shipment, has in hand a promise to pay for the shipment from a reputable foreign financial institution, or in the event of the intervention of a confirming bank, from a native bank. From the point of view of the issuer, it is paid a remuneration for the opening of the credit and retains the bills of lading and other shipping documents presented with demand of payment as security for reimbursement by the customer of the amount of credit extended and paid.
The seller as beneficiary may use the credit in several ways. He may, of course, guard it as assurance for payment if and when complete shipment is effected. He may, prior to shipment, use the credit as collateral for a loan from his own bank to carry on his business activities. He may use the credit as a backing or security for the issuance of a letter of credit as his own request in favour of his suppliers.
An exporter who does not benefit from a letter of credit must use other procedures for effecting collection on an account due by the importer. If the account of the importer is a continuing one, the exporter will either rely on cumulated credits in the account or obtain a bond or advance deposit as partial or full security for ultimate payment on the shipment. If the importer’s account is not continuous, or if there is no reason to trust that the present and future shipments will be fully paid, the exporter will. simply withhold shipping and clearance documents Until the importer has made payment. The problem with this procedure is that goods arrive at their destination before the arrival of the shipping documents. The importer or exporter, depending on the contractual arrangements, will suffer the inconvenience and expense of charges for demurrage, insurance, and other charges relating to the late taking of possession. Many banks conveniently provide an international collection service which permits the expeditious remittance of documents and collection without stalling the process of shipment and delivery. The service usually requires the exporter to forward to the bank a remittance letter from the exporter enclosing bills of lading, insurance certificates, invoices and other documents relating to the shipment. The exporter also forwards a bill of exchange drawn on the importer. The collecting bank, usually chosen by the importer, receives the documentation from the exporter by airmail, and notifies the importer of the arrival of the document. In accordance with the instructions of the exporter, the documents will be released on payment by the collecting bank or released upon acceptance by the importer of the bill of exchange. Upon maturity, the collecting bank demands payment of the bill of exchange after having financed the exporter up to the date of maturity. Where explicit reference is made in the remittance letter, the collection service is subject to the various terms set out in the Uniform Rules for Collection published by the International Chamber of Commerce.
It may occur that documents are forwarded by a remitting bank to the issuer with unclear instructions: the covering letter may refer to the letter of credit serial number, allude to the application of the Uniform Customs and Practice for Documentary Credits, and yet instruct the issuer to remit the documents, against payment or acceptance of a draft, to a designated party. While the issuer may be tempted to treat the remittance as a collection account, especially where the documents were sent long after the letter of credit expired, it is of course prudent to seek clarification from the remitting bank. The “Uniform Rules for Collections” contains a number of terms which require definition, such as:
The case of need is the party in the importer’s country named by the exporter who may assist in obtaining payment or acceptance of draft or who may be empowered by the exporter to act fully on his/her behalf.
The documents against payment (D/P) or documents on payment (DOP or D/P) are the documents attached to the draft drawn by the exporter and needed to obtain goods are deliverable to the importer only after payment of the draft. Similarly with the necessary changes, reference is made to documents against acceptance (D/A).
Protest is the legal action to be undertaken by the collecting bank, at the instructions of the exporter, in case the importer does not pay a sight draft, or does not accept a term draft or does not pay an accepted draft on maturity.