Issuing and negotiation of Letters of Credit
This service stands out in the Bank’s financing portfolio as one of the most demanded services by customers.
A letter of credit is a payment instrument guided by international standards. This instrument allows individuals or institutions to order a bank to pay a third party provided certain conditions have been met and a series of documents have been submitted as for instance invoices, customs certificates, etc. Applicants will make the payments at the end of the process. The seller of the goods is the recipient of the payment.
A documentary credit is an irrevocable promise of a bank to honor, i.e. pay or commit to pay against the acceptable presentation of documents (presentation of documents in accordance with the terms and conditions of the promise, as well as norms and standard international banking practices).
Letters of credit are deals independent from any other contract.
Types of Letters of Credit:
- Commitment by the issuing bank
Irrevocable LC: It cannot be canceled or amended without the consent of the parties involved, Applicant, Issuing Bank, Intermediary Bank and Beneficiary.
- Commitment by the intermediary bank:
Unconfirmed LC: The Intermediary Bank does not undertake any responsibility regarding the solvency or commitments undertaken by the Issuing Bank.
The unconfirmed credit is advised to the beneficiary through the advising bank. The Advising Bank acts as agent of the Issuing Bank and does not undertake any responsibility in virtue of the documentary credit, except for verifying the authenticity of the credit it is advising.
In the case of Unconfirmed LCs, payments can be made at sight or deferred payment as long as the documents submitted are compliant with the terms and conditions of the credit.
At sight: Immediate payments are ordered.
Deferred payment: Future payments are arranged according to the terms established in the LC.
Confirmed: A bank confirms this instrument by request or authorization by the Issuing Bank. It represents a strong commitment by the Confirming Bank in addition to that of the Issuing Bank. Generally, the confirmation is made by a foreign correspondent and for that it is necessary to advance the amount of the credit as collateral.
- According to the availability of funds:
At sight: Immediate payments are ordered provided that presentation is complying.
Deferred payment: A commitment of deferred payment is made with the Bank of the Beneficiary from a given date and only if the presentation is complying with the terms established in the LC.
Mixed payment: It is a combination of the above. A certain amount or percentage is paid at sight whereas the remaining amount or percentage is paid on a given date according to the terms of the credit.
Other types of Letters of Credit:
Domestic: It is an instrument by which a bank, on account of a buyer, formally undertakes to pay to the seller as long as it has complied with the conditions of the credit set in a commercial contract.
Transferable: It is a credit that allows a beneficiary to further transfer all or a part of the payment to another supplier in the chain or any other beneficiary. In order to do so, it is necessary that the document expressly states that the Credit is Transferable. It can only be transferred by the bank authorized.
Revolving LC: The amount used can ben reintegrated, being the original amount of the credit again available for the beneficiary without amendment. The period of time and the amount to be used by the beneficiary are stated. It is negotiated if the amount is “non-cumulative”. In this case the amounts not used in a month are available for the following months within the validity period.
Back to Back LC (Derived or Support): It involves two independent letters of credit. The first one is issued by the bank of the buyer to the intermediary and the second is issued by the bank of an intermediary to the seller. The first letter of credit acts as a collection guarantee for the issuing bank of the second one.
Stand by LC: It implements the same mechanism as documentary credits but it is issued as a guarantee in financial transactions and commercial deals or services to be executed in case of non-payment of a contract.
It is a second payment option for the beneficiary, who will have the right to collect in case of non-payment by the applicant. This type of letter of credit is negotiable at sight against the submission of a letter issued by the beneficiary notifying the non-payment, usually adding the non-paid financial document and occasionally a copy of the invoice.
Please Open: It is used when a bank requests to reopen the credit through another bank because it has no RMA or it cannot issue the credit directly for certain reasons.