1 The two important doctrines underlying documentary letters of credit and the fraud exception.

Tenielle Appanna LLB Student at the University of Pretoria, done in pursuit of an LLM degree.

Introduction ho ma!e use of these instruments usually come from each other personally and have

Documentary letters of credit are important tools in relation to international trade. The parties different countries and usually have different vie s on "usiness trade and customs. The parties generally do not !no opposite interests in relation to the contract of sale. There is a sense of distrust to ards each other, as "oth parties have serious concerns as far as the others performance in terms of the contract is concerned. #hile the purchaser has a fear of receiving goods of an incorrect $uantity or $uality, or not receiving goods at all, the seller fears non%payment, or that the "uyer may refuse to accept the goods on a mere technicality. & 'oupled ith the a"ove%mentioned is the fact that legal recourse ill "e

e(pensive and may "e comple( ta!ing )urisdiction into consideration. Documentary letters of credit ease some of these fears due to the uni$ue doctrines hich form the foundation of this instrument and hich ill "e discussed at length. The most fre$uently encountered e(ception to documentary letters of credit not "eing fulfilled is that of fraud 2 ill also "e discussed at length.

The definition of and the parties to documentary letters of credit

A documentary letter of credit is an underta!ing "et een three or more parties.*The parties are traditionally the account party or applicant "eing the "uyer or importer, the opening "an! or issuing "an! "eing the applicant "an! and the "eneficiary is the seller or e(porter. +,n some instances the letter of credit may "e electronically issued to the "eneficiary
1 2

ho presents the draft

Sar!ar -*..+/&0. Sar!ar -*..+/&1. 3 Idem 20.

2 and documents to any local "an! illing to negotiate them for him. 2,n this

event, the issuing "an! sends the letter of credit to one of its correspondent "an!s in the same locality of the e(porter. This correspondent then "ecomes the advising "an!, the paying "an! and the confirming "an!. 3 The correspondent "an! is the advising "an! as it informs the "eneficiary that the letter of credit has "een opened in his favour. 4 ,t is the paying "an! as it may "e authori5ed to pay the "eneficiary in local currency hen presented ith the proper documentation. This correspondent "an! in its capacity as advising or paying "an! may "e re$uired to add its o n name to the letter of credit for hich it charges the opening "an! a fee. ,n this "ecomes a confirmed letter of credit and thus it "ecomes the confirming "an! as ell. 21 The contractual relationships that are distinguishable. ho ma!es payment on ay the arrangement here t o "an!s are committed to pay

The most important parties are the issuing "an!,

"ehalf of the applicant, to the "eneficiary, and should there "e a correspondent, then the paying "an!, the advising "an! and the confirming "an! that are all the same "an! "ut )ust termed differently. Therefore dealing hen ith this instrument, there are at least three distinguisha"le

contractual relationships present. 6irstly, there is the contract "et een the "eneficiary and the applicant.0 Secondly there is the contract "et een the applicant and the issuing "an!. 1 Thirdly there is the letter of credit contract "et een the issuing "an! and the "eneficiary. 7 Lastly, there is the contractual relationship descri"ed a"ove, "et een the advising "an! and the issuing "an!.&. All these contracts are completely independent.

4 5

Sar!ar -*..+/*.. Ibid. 6 Sar!ar -*..+/*.. 7 8an 9ie!er! : Schul5e-*..4/*7*. 8 Ibid. 9 8an 9ie!er! : Schul5e-*..4/*7*. 10 Ibid.

3 22 Operation of documentary letters of credit

The issuing "an! promises to pay the "eneficiary upon presentation of certain documents. Therefore in simple terms it is a letter addressed to the "eneficiary that is agree that it complies ritten and signed "y the "an! acting on "ehalf of the ith the letter of credit, the applicant "an!
&*

applicant.&& ,n accordance

ill

ill accept drafts under the letter of credit if the "eneficiary strictly The "eneficiary in ith the draft. &+

ith terms set forth under the letter of credit.

most cases is as!ed to provide certain documents together

;(amples of these documents are negotia"le "ills of lading, insurance papers, commercial invoices, a draft of a "ill of e(change, a government issued or other legal document re$uired.&2 ,n this hich indicates that the goods are ready for e(port, an inspection certificate, and any other document that may "e specifically ay the issuing "an! stands in for its customer "eing the applicant in agreeing to pay the "eneficiary as long as the conditions in terms of the letter of credit are fulfilled. &3 The use of a documentary letter of credit has several advantages for the "eneficiary. &4The "eneficiary does not have to ship the goods until the account party has opened the letter of credit and the he has received the advice of issuing from the "an!. 23
&0

Legal effect of the issuing of a documentary letter of credit. ill no pay the hether firstly,

Since the letter of credit in effect means that the "an!

"eneficiary on "ehalf of the applicant, one needs to $uestion

this constitutes an a"solute payment "y e(tinguishing the original de"t, and secondly, if so, does the "eneficiary have the option of ignoring the letter of credit and merely claiming from the applicant< &1 The a"ove mentioned is of pivotal importance hen the issuing "an! "ecomes insolvent or is un illing to pay. &7 As to the $uestion regarding hether this constitutes a"solute payment one needs to remem"er that for
11 12

Sar!.ar -*..+/&1. Ibid. 13 Sar!ar -*..+/&1. 14 Idem 19. 15 Sar!ar -*..+/&7. 16 Schnit5er-*..4/1.. 17 Ibid. 18 8an 9ie!er! : Schul5e-*..4/*7+. 19 Ibid.

4 this to happen, novation needs to ta!e place. *. 9ovation is o"ligation is replaced and discharged ith a ne here the earlier

one. *& Therefore all three ith a ne one. ** Unless ording of the
*+

parties namely the issuing "an!, the applicant and the "eneficiary must all intend to e(tinguish the e(isting de"t and replace it there is a clear intention of novation, evident from e(press

contract of sale and letter of credit, or the surrounding circumstances, "oth the applicant and the issuing "an! are lia"le to ards the "eneficiary. accepted in our la that operates as conditional payment and not a"solute payment. *2 3 Doctrines underlying documentary letters of credit ,t is hen a letter of credit is accepted "y a "eneficiary, it

There are t o fundamental principles underlying documentary letters of credit namely the autonomy of the credit and the doctrine of strict compliance. These principles are uni$ue and characteristic of this instrument. 31 utonomy of the credit

#hen loo!ing at the principle of autonomy, all the underta!ings in respect of the documentary letter of credit "et een the parties are considered to "e independent from each other. As such, even though all these underta!ings are related, failure to fulfil one underta!ing does not render the ne(t underta!ing unenforcea"le.*3 The doctrine of autonomy has "een entrenched in article + of the Uniform 'ustoms and Practice -U'P/, other contract on are in no hich states that letters of credit "y nature are independent from the contract of sale or any hich they may "e "ased. *4 Article + also states that "an!s ith or "ound "y the underlying contract, even if the ay concerned

letter of credit contains a reference to the underlying contract. Due to this, the underta!ing "y the "an! to pay in cash or to accept and pay "ills of e(change or drafts, or to fulfil any other o"ligation under the letter of credit, is not su")ect to claims of defences "y the applicant resulting from its relationship
20 21

ith the

8an 9ie!er! : Schul5e-*..4/*73. Ibid. 22 8an 9ie!er! : Schul5e-*..4/*73. 23 Idem 296. 24 8an 9ie!er! : Schul5e-*..4/*72. 25 Sar!ar-*..4/+*= 8an 9ie!er! : Schul5e-*..4/+.4. 26 8an 9ie!er! : Schul5e-*..4/+.4.

5 issuing "an! or ith the "eneficiary. *0 At the same time the "eneficiary cannot

avail itself of the contractual relationship e(isting "et een the applicant and the issuing "an!.*1 The doctrine of autonomy underpins the character of the letter of credit in international trade as an independent and separate underta!ing "y the "an! to pay the "eneficiary.*7 The doctrine serves as a deterrent in a situation here the applicant ants to litigate, due to the "eneficiary "reaching the ith the issuing "an!s payment contract, and the applicant see!s to interfere "een met.+. The issuing "an! must not concern itself ith the underlying dispute.

to the "eneficiary even though all the conditions on the letter of credit have

Therefore the issuing "an! must pay under the letter of credit regardless of hether the underlying goods that are the su")ect of the sales contract "et een the applicant and the "eneficiary conform to the conditions of sale. +& All that matters is that all the conditions set out in the letter of credit are fulfilled.+* This means that the confirming "an! is o"ligated to the opening "an! and the "eneficiary alone. ++ The applicant lac!s privacy lies ith the issuing "an! ith the confirming "an! "ased on the letter of credit. +2 The applicant only recourse hich can institute an action against the confirming "an! for rongful honour or dishonour of the draft. +3 The same can "e said

ith regard to all the other o"ligations ,n relation to each party. As mentioned a"ove, the conditions that the seller has a duty to fulfil prior to payment ta!e the form of documents that need to "e handed in to the "an!. Due to most of the evidentiary material ta!ing the form of documents it is possi"le to o"tain

27 28

Ibid. 8an 9ie!er! : Schul5e-*..4/+.0. 29 Phillips & Another v Standard Bank of South Afri a & !thers 19"# $%&SA%01$'& = 8an 9ie!er! : Schul5e-*..4/+.0= Schnit5er-*..4/14. 30 8an 9ie!er! : Schul5e-*..4/+.0. 31 Sar!ar -*..4/++. 32 Schnit5er-*..4/10. 33 Sar!ar -*..4/++. 34 Ibid. 35 Sar!ar -*..4/++.

6 summary )udgement against a "an! that does not honour its o"ligation to pay.+4 32 !ase law which illustrates the autonomy principle being upheld.

Ex Parte Sapan Trading (Pty)Ltd3" ,n this case the applicant tried to stop payment of an irrevoca"le letter of credit to the "eneficiary "y o"taining an attachment of the "eneficiary>s claim against the issuing "an! in order to found or confirm )urisdiction. +1 The court found that there this one as no real difference "et een a situation here the "an! is interdicted from paying the "eneficiary in its o n country, and a situation li!e here the applicant attempted to prevent the issuing "an! from ho ould receive the money on "ehalf of the effecting payment in a foreign country "y rather enforcing it to effect payment to the local deputy sheriff "eneficiary.+7the court further contended that that an in ola has the right to attach the property or a pere(rinus) and that the court has no discretion in the matter. The court solved this pro"lem "y implying a term into the relationship "et een the applicant and the "eneficiary in that the applicant "y arranging for an irrevoca"le letter of credit implied that he entrenched this principle is in our la . 33 Doctrine of strict compliance. hich is not in ith the terms set out in the documentary letter of credit. 2& ith documents. 2* Secondly, hich are tendered "y the ould not attempt to attach firmly the proceeds from the letter of credit. 2. This case indicates ho

This doctrine provides that the "an! can re)ect any document strict conformity Therefore, firstly, the letter of credit deals purely this doctrine demands that the documents "eneficiary must "e in strict conformity

ith the terms and conditions of the

letter of credit.2+ This doctrine is also entrenched in the U'P.22 Article 2

36 37

Schnit5er-*..4/10. &773-&/SA *&1-#/. 38 Ibid* 8an 9ie!er! : Schul5e-*..4/+.1. 39 &773-&/SA *&1-#/= * 8an 9ie!er! : Schul5e-*..4/+.1. 40 Ibid. 41 Schnit5er-*..4/10. 42 8an 9ie!er! : Schul5e-*..4/+.7. 43 Ibid. 44 8an 9ie!er! : Schul5e-*..4/+.7.

7 provides that in letter of credit transactions, all the parties concerned deal the documents relate.23 The issuing "an! relies solely on the conditions in the letter of credit have "een complied deal ith finance and not ith

documents, and not ith the goods, services and other performances to hich hat appears on the hether ith. 24 The "an!s that ith the face of the documents presented to it "y the "eneficiary to determine

ith goods are not a are of all trade customs and

usages.20>Therefore their e(pertise e(tends as far as dealing documents

ithout getting em"roiled in the facts and practices of a particular

trade.21 As far as the standard of e(amination in arranging for the carriage of goods overseas is concerned, the "eneficiary needs reassurance that the standards applied "y "an!s in scrutinising documents country to country.27 3# $ffects of the doctrine strict compliance ill not vary from

The doctrine of strict documentary compliance re$uires not only that the tendered documents conform to the terms and conditions of the documentary letter of credit "ut that they appear on their face to "e consistent another.3.This re$uires that all the documents are consistent in the sense that they ma!e up a set ith one ith one another

hich is apparently referring to the same

container of goods.3& A measure of certainty is needed "ecause, if the documents are re)ected, this is li!ely to cause delay and e(pense in selling the goods else here.3* The U'P appears to confirm this vie "y ma!ing reference to international standard "an!ing practice. Therefore the overall effect of the doctrine of compliance is that the "an! honouring the documentary letter of credit must strictly conform to the conditions set out in the letter of credit, and should the documents handed in "y the "eneficiary not meet this criteria then the "an! must not pay out. 3+Therefore the re$uired standard is that of strict conformity.32
45 46

Ibid. 8an 9ie!er! : Schul5e-*..4/+.7. 47 Schnit5er-*..4/10. 48 Ibid. 49 ?.B.L. *..0. ?un, +33%+00. 50 &2 B.L.6.@ 3.3. 51 Ibid 52 ?.B.L. *..0. ?un, +33%+00. 53 8an 9ie!er! : Schul5e-*..4/+.7. 54 Ibid.

The other component to this doctrine as emphasised a"ove is that the "an! deals purely ith the documents. 33,t is contended that even if the deviation from the letter of credit is small, the "an! must refuse to pay. 34 ,f the "an! pays on non%conforming documents then it has not fulfilled its mandate to ards the applicant.30 The doctrine of strict compliance does not mean that all of the TAs in the credit must "e crossed and all of the ,As dotted. 31 As stated "y the court in Angelica-WhitewearB37 Cthere has apparently "een recognition that there must "e some latitude for minor variations or discrepancies that are not sufficiently material to )ustify a refusal of payment.D 4. Due to the fact that the issuing "an! deals solely ith the documents, it is of no relevance that the goods received "y the applicant are not of the $uality or $uantity etc, as descri"ed in the contract.4& Therefore slight discrepancies can and must "e disregarded if the instructions on the documents ma!e sense regardless. 4* 3% !ase law to illustrate these &rinciples' Loomcraft v Ned an! and

Another"#$ ,n this case a documentary letter of credit that formed the su")ect matter of negotia"le com"ined transport document. This as a start to finish document in that it covering every stage of the carriage of goods involving more than one stage termed com"ined transport. By issuing a com"ined transport document the carrier accepted the responsi"ility of the performance of the com"ined transport. #here a credit calls for a com"ined transport document and the other stipulations of the credit are met, a "an! complianceB a/ it appears to have "een issued "y a named carrier or= "/ his agent indicates a ta!ing in charge of the goods= and
55 56

ill only accept a ith strict

transport document if the follo ing criteria are met in line

8an 9ie!er! : Schul5e-*..4/+.7. Ibid. 57 8an 9ie!er! : Schul5e-*..4/+.7. 58 &2 B.L.6.@ 3.3 59 -&710 / & S.'.@37-S.'.'/ 60 &2 B.L.6.@ 3.3. 61 8an 9ie!er! : Schul5e-*..4/+.7. 62 Ibid. 63 +oom raft v ,edbank and Another 1996 $1& SA "12 $A&.

9 c/ ,t consists of a full set of originals issued to the consignor. Su")ect to the other stipulations of the credit, the "an! may not re)ect the transport document "ecause it indicates a place of ta!ing charge to "e different from the port of loading. An interdict restraining a "an! from paying in terms of a credit ill accordingly not "e granted at the insistence of the "uyer ell esta"lished that courts ill unless it is an e(ceptional case. ,t is, ho ever,

grant an interdict restraining a "an! from paying the "eneficiary under a credit in the event of it "eing esta"lished that the "eneficiary as a party to fraud in relation to the documents presented to the "an! for payment. The lia"ility of the "an! to the "eneficiary to honour the credit arises upon presentment to the "an! of the documents specified in the credit, including typically a set of "ills of lading, the "an! hich on their face conform strictly to the re$uirements of the credit. ,n the event of these documents "eing presented, ill only escape lia"ility upon proof of fraud on the part of the "eneficiary. The court found that a mere error, misunderstanding or oversight, ho ever unreasona"le, does not amount to fraud in this case. This case is of great importance as it em"odies "oth the doctrine of autonomy as doctrine of strict compliance. ell as the

The fraud exception. ell as here a legal rule

The e(ception of fraud applies to "oth the doctrine of autonomy as that of strict compliance.6raud, roughly spea!ing refers to

or interest is enforced in "ad faith and that enforcement damages the interests of another individual or the interests of the pu"lic at large. 42 To determine orrumpit "eneficiary hat "ehaviour constitutes fraud, e can loo! at fraus omnia hich indicates that a hich is clearly grounded in ethics and

ho is guilty of fraud is not entitled to payment under the

instrument.43Documentary letters of credit secure a "eneficiary>s right to payment from the respective "an! involved. 44 #hen the "eneficiary presents a
64 65

&.4 Dic! . L. @ev.*&. Ibid. 66 &.4 Dic! . L.* @ev.*&.

10 demand for payment, the fraud e(ception is often used to )ustify non%payment, here payment is not due to "e made. 40 The most common type of fraud in the conte(t of documentary letters of credit is here the "eneficiary has forged or deli"erately falsified the documents in order to fulfil the conditions in the instrument.41,f the document itself is inade$uate as far as the description of one or even several elements necessary to perform the contract, then a suspicion of fraud is raised.47 There is no mention of fraud in the ,nternational 'ham"er of 'ommerce-,''/ regulation. #2 &ertinent aspects of fraud. ith fraud, there are t o very important $uestions that need to as the fraud

#hen dealing

"e as!ed. 6irstly, is the fraud "y the "eneficiary discovered "efore or after the "an! pays on the letter on the letter of credit< 0. Secondly, committed "y the "eneficiary on the documents or not< # 2 1 (raud disco)ered after payment."1 ,n this instance, the "an! the applicant. This is ill not "e lia"le and can recover the money from here the "an! has made such payment from its o n

funds. #here ho ever payment has "een effected from the applicants o n funds and the "an! has merely paid it over to the "eneficiary, the applicant ill not have a claim as against the "an!. the nature of documentary letters of credit infer this !ind of ris! as far as the difficulty the applicant attempting to recoup the money from the "eneficiary. 0* # 2 2 (raud disco)ered before payment."3 ,f the fraud is discovered "efore payment "y the "an!, the applicant may approach the court for an interdict to prevent payment. #here the forgery or falsification appears from the face of the documents, the "an! is entitled to effuse payment even
67 68

ill incur in

ithout court intervention. the "asic principle "ehind

Ibid. 8an 9ie!er! : Schul5e-*..4/+.7. 69 &.4 Dic! . L.* @ev.*&. 70 8an 9ie!er! : Schul5e-*..4/+&+. 71 Ibid. 72 Phillips & Another v Standard Bank of South Afri a +td & !thers 19"#$%& SA %01$'&. 73 8an 9ie!er! : Schul5e-*..4/+&+ : +&2.

11 "oth these scenario>s is that the unscrupulous "eneficiary should not "enefit from the use of fraud "y using the doctrine of autonomy or that of strict enforcement. #22 !ase law to illustrate the abo)e mentioned principle.

A clear distinction needs to "e dra n "et een fraud and innocent "reach of contract.02 This is o"viously pivotal to fraud committed "efore and after payment and fraud in general as it ould avoid unnecessary inconvenience and court proceedings if the t o ere clearly distinguisha"le. ,n the case of Phillip% & Another v Standard 'an! of So(th Africa Ltd & )ther%"% the South Africa applicant had imported shoes from an ,talian manufacturer, and sought an interdict to prevent Standard Ban! from paying as it discovered that some of the shoes ho as ere defective. The manufacturer ant to postpone payment. as found to "e illing to consider the complaints did not

The court after reiterating the doctrine of autonomy, dismissed the application as there as no fraud on the part of the "eneficiary, instead it consistent ith innocent "reach of contract. # 2 3 (raud committed by the beneficiary on the documents or not* +In the wide or narrow sense,. The fraud e(ception to documentary letters of credit has e(pressed much insight here the forgery or falsification as committed on the document senseD. ,t stands to follo that itself.04 This is the so called fraud Cin the narro courts are less li!ely to allo payment regarding

an interdict preventing a "an! from ma!ing

here fraud concerns the performance rather than the document hether e follo a system of fraud in the ide or narro sense. as

due to the doctrines of autonomy and strict compliance. 00 There is uncertainty ,n the +oom raft -abri s .. / ,edbank +td ase 01, the court found that it fraud in the narro
74 75

sense. Eo ever the Loomcraft decision concerned fraud

Idem %10. &713-+/ SA +.&-#/. 76 8an 9ie!er! : Schul5e-*..4/+&4. 77 Ibid. 78 Supra para(raph % #.

12 on the documents, and therefore the court follo ed suite and that is all that it considered. Therefore , agree that the +oom raft decision can not form the "asis of hich system of fraud e follo .

,n the *nion +arriage &Wagon +o Ltd v Nedcor 'an! Ltd ca%e -07 the court remar!ed "y ay of obiter di tum that if the applicant and the "eneficiary on the documentary letter of credit, ould "e guilty of ent ahead any ay, the "eneficiary agreed that the "eneficiary ould not dra and the "eneficiary

fraud.1. This provides an indication that our courts may "e prepared to loo! "eyond the documentation in deciding on hether fraud has "een ide committed.1& , am of the opinion that fraud should "e loo!ed at in the amounts of money, e should not allo

sense. Due to these international transactions usually concerning large the applicant to "e defrauded merely ould "e easier and sense. "ecause our courts often operate ith "lin!ers on as it

less administration )ust to deli"erate on the narro % !onclusion.

Documentary letters of credit play a vital role in international trade. They serve as an instrument that ma!es the effecting of cross "order payment effortless. The underlying doctrines of autonomy and strict compliance, give certainty to the legalities em"odied in the document of credit, and also indicate that the applicant should "e ell a are of hat he is getting into "efore indeed fraud in the applying for this mechanism. As such the impact of fraud should not "e underestimated and it is my contention that our courts should vie faith. ide sense so as to afford the ma(imum protection to the party acting in good

79 80

&774 'L@ 0*2 -#/. 8an 9ie!er! : Schul5e-*..4/+&0. 81 Ibid.