1. Introduction
    This chapter explains the steps for using the letter of credit in the international sales and shipments described and illustrated in chapter I and the benefits that the commercial letter of credit affords to the seller (beneficiary) and the buyer (applicant).

  1. Applying for the Commercial Letter of Credit
    The international sale contract should specify the terms of payment (by cash in advance, against documents or acceptance, under open account terms, by commercial credit or by confirmed commercial credit).

    Once the contract is established, and sometimes before it is established if the contract calls for payment by documentary credit, the applicant (buyer) initiates issuance of the credit by applying for the credit at the buyer’s bank. The bank will ask the applicant to sign an application.


The application should give a complete description of the documents that the buyer feels will provide adequate evidence of the seller’s compliance with the sales contract. The documents required should reflect essential terms of the sales contract, such as price, delivery and description of the goods, and include any documents that the buyer/applicant needs from the seller in order to clear customs, resell the goods and so forth. The buyer will want to know that the goods are insured, that they will be delivered on time and that freight costs are allocated in accordance with the sales agreement. By completing the application carefully, the buyer can be certain that those concerns are adequately addressed. The application will also specify the terms of the buyer/applicant’s reimbursement obligation, as the bank will ask the buyer/applicant to reimburse the bank when the issuing bank pays the seller. Normally, the letter of credit should ask the seller to present to the bank a draft (see chapter VI, section 4), an invoice (see chapter XI, section 2), a transport document (see chapter I, section 2.b) issued by the international carrier (see chapter I, section 2.a and chapter II, section 3) and other documents (see chapter XI).

Occasionally, the buyer is not the customer of a bank that issues letters of credit or does not have sufficient credit to satisfy a letter of credit issuer that the issuer will be able to obtain reimbursement from the buyer/applicant when the issuer honours the beneficiary/seller’s request for payment. In that case, buyers seek the financial strength of a third party to apply for the credit. That third party is often a smaller bank with which the buyer has a relationship or might be the buyer’s corporate parent, a relative of the buyer’s principals or a merchant, factor or finance company that secures credit for others for a fee (see Illustration 7-2).


  1. Issuing the Credit
    The issuing bank issues the credit, usually by sending a message via SWIFT to a bank in the seller’s market. The bank in the seller’s market then creates an operative original of the issuer’s credit and delivers it to the seller under its own cover letter, an activity known as “advising” the credit. This message arrangement is secure. The advisor knows that the SWIFT message is genuine. (For a discussion of SWIFT, see chapter III, section 2.) Rarely are there any errors in transmission, and the seller receives the credit promptly. UCP 600 imposes on the advising bank the duty to ensure that the credit has been issued and that the terms are stated accurately in the advice (see UCP 600 art. 9). (For further discussion of the advice, see chapter VIII). Issuance of the credit is an important event in the documentary credit transaction, as the issuer is irrevocably bound to honour the seller/beneficiary’s presentation of complying documents once the credit has been issued (see UCP 600 art. 7(b)).

  1. Amending the Letter of Credit
    Once the credit has been issued, the buyer/applicant and the seller/beneficiary must review it carefully. The buyer/applicant must assure itself that the bank has issued the credit in accordance with the application submitted by the buyer to the bank. If the bank has made any errors, the buyer should immediately seek an amendment.
    The seller/beneficiary will also want to review the credit to ensure that it can comply with the documentary conditions, as UCP 600 article 16(a) permits the issuer to dishonour when the seller’s documents fail to comply with the terms of the credit.

If the buyer or the seller discovers problems with the credit’s terms and conditions, there should be a prompt request for an amendment. Requests for amendments can be initiated by any party, but under UCP 600 article 10(a) no amendment can bind the issuer and the beneficiary unless they agree to it. Usually, the issuer will want the buyer’s agreement to the amendment so that the amendment does not impair the bank’s reimbursement claim against the buyer. If there is a confirming bank in the transaction (see chapter X), that bank is not bound by an amendment unless it agrees to it. The procedures for amending credits are covered in detail by the UCP (see UCP 600 art. 10; see also Illustration 7-4).

When all of the necessary amendments have been received, the seller/beneficiary will release the order for fulfilment. While the shipping department is preparing the goods for shipment, the seller’s credit department begins the critical task of preparing a draft (see chapter VI, section 4) and/or the other documents that the seller must present to the issuing bank (or some other bank nominated by the issuer) in order to satisfy the credit’s documentary conditions. One of those documents will be the transport document (see chapter XI, section 2). A second will be the seller/beneficiary’s invoice (see chapter I, section 2). There will probably be additional documents, all of them specified in the letter of credit as documentary conditions.
When the documents are ready and compliant, the seller will present them, through the bank where the credit is stated to be available, to the issuer, which will honour its credit obligation.


  1. Two Warnings!
  1. Under UCP 600 article 6, all letters of credit must contain an expiry, the last date by which documents may be presented. Furthermore, under article 14(c), unless the credit provides otherwise, the documents must be presented within 21 days of the date of shipment indicated in the transport document . The seller/beneficiary must therefore introduce the documents into the banking system by taking them to the bank nominated in the credit as the bank with which the credit is available (see chapter III), either before the letter of credit expires or before the 21 days run out.
  2. Under UCP 600 article 14, in examining the seller’s documents, the bank document examiners must use international standard banking practices. (For further discussion of international standard banking practices, see chapter XI, section 5.) Generally, those practices require the seller to comply strictly with the terms of the letter of credit. No documents can be missing if the credit calls for them, no documents may vary from the documentary conditions of the credit and the data in the documents must not be in conflict.
    The seller/beneficiary’s bank, its freight forwarder or the consultants that it hires for this purpose will help the seller prepare the documents so that they comply and/or review any documents prepared by other parties. This process may take time. Seller/beneficiaries cannot delay and should present documents early enough so that they can repair any discrepancies and re-present corrected documents prior to the expiry and the latest presentation deadline for transport documents (21 days unless otherwise specified).
    Under UCP 600 article 16, the issuing bank must give notice of any documentary defects within five banking days following its receipt of the documents or lose its right to dishonour (see chapter XII, section 4.) This notice will identify the documentary defects, and, if there is still time, the seller/beneficiary may be able to correct the defects.
  1. Illustrating the Transport and Documentary Credit Components of the Transaction
    Illustration 7-5 combines the transport component of the transaction with the presentation of the documents by the seller/beneficiary through the nominated bank and illustrates the ways in which the letter of credit benefits first the seller and then the buyer.


  1. Benefits to the Seller
    1. The documentary letter of credit minimizes the risk of delivery of the goods without payment. When shipment is made using a title transport document (see chapter VI, section 3), the carrier will normally obey the order of the party holding the transport document. The seller thereby retains control of the goods until the issuing bank honours the seller’s request for payment and takes the document of title. At that point, the issuer, having honoured with its own funds, debits the account of the buyer and transmits the transport documents to the buyer. If the issuer finds discrepancies in the documents and, based on those discrepancies, elects to dishonour the seller’s request for payment, it must return the documents, including the transport document, to the presenter (i.e. the nominated bank on behalf of the seller) or hold on to them at the presenter’s direction.
    2. The documentary credit also minimizes the seller’s credit risk. Because banks in most countries are financially sound and generally guard their reputation as good faith credit issuers, a seller that presents complying documents can safely assume that it will be paid. If the issuing bank is located in a country that has a weak banking system or is susceptible to foreign exchange shortages or political turmoil, the seller can ask for another bank to be authorized to add its confirmation to the credit (see chapter X).
    3. Finally, the documentary credit enhances the seller’s ability to obtain bank financing for the transaction (see chapters XIV-XVII).


  1. Benefits to the Buyer
    1. The documentary credit gives the buyer access to the seller as a source of supply without having to pay cash in advance. Because the bank’s credit standing is strong, sellers are willing to do business with buyers, often on credit terms, even when the buyer’s credit standing is weak or not established. The seller does not have to rely on the buyer’s credit rating. The seller can rely on the credit of the issuing bank and is therefore willing to do business with a credit-risky buyer.
    2. The documentary credit permits the buyer, if it takes the appropriate steps, to protect itself from paying against defective goods by conditioning honour of the seller/beneficiary’s draft on presentation of an independent agency’s inspection certificate. The buyer can also require documentation necessary to bring the goods through customs, satisfy its own customer sub-buyers and provide security to the issuing bank that will give the buyer credit terms on the buyer’s reimbursement obligation.


  1. Summary
    The documentary credit serves the international sale of goods by reducing the risks of both buyers and sellers. The transaction meshes well with the parties’ international sales agreement, with the practices of the international transport industry and with the strength of the international departments of the trading world’s commercial banks.