Payment security and trust are frequently the main issues when trading overseas. How can an exporter be certain they will receive payment? How can an importer be certain that the items will arrive as promised? The Letter of Credit (LC), a time-tested financial instrument, holds the key to the solution.
A Letter of Credit is a bank’s assurance that, subject to specific conditions and supporting documents, the exporter will receive payment. It is widely accepted across countries and industries and is among the safest ways to pay for goods and services in international trade.
How a Credit Letter Operates
Four parties are usually involved in the process:
- Importer (purchaser)
- Seller/exporter
- The buyer’s bank is the issuing bank.
- The seller’s bank is the advising/confirming bank.
After the terms are agreed upon, the buyer asks their bank to issue an LC in the seller’s favor. After that, the seller sends the items and gives their bank the necessary paperwork (invoice, packing list, bill of lading, etc.). Payment is released if the documents meet the criteria of the LC.
Types of Letters of Credit
1. Revocable and Irrevocable: The majority of LCs issued today are irrevocable, which means that all parties must agree for them to be altered or canceled.
2. Usance and Sight: Usance LCs permit a postponed payment time, whereas sight LCs pay instantly upon document verification.
3. Confirmed LC: By enlisting a second bank, typically located in the exporter’s nation, to ensure payment, confirmed LC provides an additional degree of protection.
Why They Are Important
- Lowers Risk: Guarantees that, should terms be fulfilled, payment will be provided.
- Establishes Trust: Promotes global trade between unknown parties.
- Supports Financing: Pre-shipment financing based on an LC is frequently available to exporters.
- Assures Compliance: Having uniform documentation lowers the likelihood of disagreement.
Understanding how LCs operate is crucial for importers and exporters to prevent delays, miscommunications, or monetary losses.
More than just a document, a Letter of Credit serves as a trustworthy conduit between the buyer and the seller, eliminating doubt and fostering trust in international trade.
Tudu Financial Services makes international transactions safe, easy, and stress-free by assisting importers and exporters in navigating letters of credit.
Choose Tudu Financial Services for reliable trade finance and expand internationally with assurance.