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Letter of Credit

Letter of Credit

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Published by: hemangitawde147 on Jan 01, 2010
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11/21/2012

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LETTER OF CREDIT (DOCUMENTARY CREDIT)
The D/P and the D/A modes of payment suggest that there is a certain degree of lack of confidence of the parties in each other. The exporter is not willing to send the goods onD/P or D/A basis because he is not sure as to whether the importer would make the payment and if the importer doesn’t pay, then he runs the risk of non-payment. Similarly,importer may also have the feeling that if he makes advance payment to the exporter andhe does not supply the goods of the quality desired by him on the due date, then he wouldalso suffer loss. Both the parties would be able to conduct their part of the transactionsmoothly if there is an assurance to them as regards protection of their interests. Theexporter requires an assurance for payment of the goods if he has sent the shipment as per export order. The importer on the other hand, requires an assurance that the paymentwould be released to the exporter only when he has supplied the goods as per the termsand conditions stipulated in the export contract. This assurance in the form of undertakingto pay is provided by the importer’s bank and is known as Letter of Credit or theDocumentary Credit.Letter of Credit refers to a written undertaking given by the importer’s bank, at therequest and instruction of importer (i.e., applicant), to the exporter (i.e., beneficiary) thatthe payment shall be made to him against stipulated documents provided that the sameappear on their face to be in accordance with the terms and conditions of the credit, theapplicable provision of UCP 600 and international standard banking practice. Theseterms and conditions are indicated by the importer to the bank issuing the letter of credit.An essential characteristic of the Letter of Credit is that it relies on the doctrine of strictcompliance for making payment to the exporter against the documents stipulated in theCredit. The banks do not deal in goods; they deal in documents. As such, the importer hasto specify to the bank the documents which it should examine to conclude that theexporter has sent the shipment in strict compliance with the terms and conditions of theCredit.
Features of letter of credit
A Letter of credit is characterized by the following features:1.
Parties to a Letter of Credit
The parties to a letter of credit transaction are as follows:a.
Issuing bank 
I.E., The bank that issues the letter of credit. It is the bank actingthe request… of a customer. b.
Applicant
i.e, the customer on whose behalf the letter of credit is issued. Inrelation to export – import transaction, the customer is the importer.c.
Beneficiary
i.e., the third party to whom the payment shall be made. In relationto export- import transaction, the beneficiary is the exporter.
 
d.
Negotiating bank 
i.e., the bank authorized to negotiate the documents stipulatedin the letter of credit.
2T
his arrangement, called letter of credit, is an undertaking of the Issuing Bank,that is, the Issuing Bank shall:
 a.
make payment to the beneficiary or to a party as per the order of the beneficiary, of 
b.
accept and pay the bills of exchange i.e., draft (s) drawn by the beneficiary, or 
c.
authorize another bank to effect such payment ( in this case the other bank shall be called the paying bank) or accept and pay such bills of exchange(in this case the bank accepting the bill of exchange would be called theaccepting bank)or 
d.
Authorize another bank to negotiate the stipulated documents (In this case‘another bank’ is called the negotiating bank).
3I
t needs to be clearly understood that this undertaking of the issuing bank is aconditional undertaking and is subject to the following conditions that the:
 a.beneficiary
presents the documents as stipulated in the letter of credit and
b.
Documents on their face appear to constitute a complying presentation,that is, presentation of documents is in accordance with terms andconditions of the credit, the applicable provisions of UCP600 andinternational standard banking practice.
Procedure for the issue of Letter of Credit
The procedure for the issue of letter of credit as explained in figure 10.3 isas follows:1.The exporter and the importer enter into an export contract which provides for payment by means of a letter of credit2.The importer approaches his bank to open the letter of credit in favors of the exporter 3.The importer’s bank sends the letter of credit to the exporter through oneof its corresponding banks in the exporter’s country, known as advising bank.4.Advising bank authenticates the letter of credit and sends it to theexporter.
Contents of letter of credit
A
letter of credit generally contains the following information:
 
1.
Complete and correct name and address of the beneficiary i.e., theexporter.
2.
Complete and correct name and address of her applicant i.e., importer.
3.
They of the letter of Credit / Documentary Credit.
4.
Amount of credit
5.
How the credit shall be available e.g., by sight payment, deferred paymentacceptance or negotiation
6.
 Name of the nominated bank,(That is , the bank which shall make payment to the beneficiary.)
7.
The name of the drawee of the draft and the tenor of the draft.
8.
List of documents required to be submitted by the beneficiary.
9.
Description of goods, quantity of the items and the unit price.
10.
Port of discharge and the place of final destination.
11.
Terms of delivery i.e., FOB, CFR, CIF etc.
12.
Status of transshipment i.e. whether allowed or not.
13.
status of partial shipment i.e., whether allowed or not
14.
The last date of sending shipment.
15.
Time period for the presentation of documents for negotiation by the beneficiary after the dispatch of the shipment.
16.
The date and lace of expiry of the letter of credit.
17.
Transfer of the letter of credit allowed or not.
18.
Mode of advice of the letter of credit i.e., by mail or teletransmission.
Precautions to be taken by the Beneficiary on the Receipt of letter of Credit
An exporter should scrutinise the letter of credit carefully before proceedingto execute the export order. He should examine the following points to ensurethat:1.The letter of credit appears to be a valid letter of credit. He can consult his banker for this purpose.2.The type of letter of credit and its terms and conditions are as per theagreed terms and conditions of the export contract.3.All the terms and conditions are acceptable and can be complied with. Itshould be ensured that the letter of credit does not include any conditionthat is unacceptable or cannot be complied with.4.The documents required under the letter of credit can be obtained and presented.5.The description of the goods, quantity and the unit prices are as per theexport contract.6.there is no clause in the letter of credit that requires payment of costs or charges not agreed to with importer.7.The last date for sending shipment and the time allowed for presentationof the documents are acceptable.

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