Article

"Defining beneficiary from an issuance perspective creates some confusion..."

by A.T.M Nesarul Hoque

During the lifetime of UCP 400, ICC was requested by its national committees to provide a formal definition of some frequently used important terms in the rules such as "negotiation". In response the Banking Commission replied: "The UCP 1983 Revision Party was unable to come up with a definition of 'negotiation' acceptable to the Banking Commission"1.

Some ten years later, the Drafting Group of UCP 500 was also asked by various national committees to define the terms used in the rules, but despite considerable effort finally abandoned the attempt, though it did express its expectation that ICC would, in due course, take these matters into consideration2.

Consequently, with a view to achieving a common understanding among trade practitioners, the drafters of UCP 600 defined its salient terms for the first time in article 2. In addition to terms, such as "applicant", "issuing bank", "honour" and "negotiation", the term "beneficiary" was also given a formal definition from a letter of credit perspective. The objective of this paper is to analyze whether the definition of beneficiary also includes a second beneficiary. In doing so, I will consider the historical development of the UCP, whether UCP 600 includes a second beneficiary and when UCP 600 binds the various parties to an L/C.

History

The first parenthetical definition of beneficiary was attempted in UCP 222 under "General provisions and definitions" subsection (b), which stated: "...Credit(s) used therein mean any arrangement, however named or described, whereby a bank (issuing bank), acting at the request and in accordance with the instructions of customer (the applicant of the credit) is to make payment to or to the order of third party (the beneficiary)... [emphasis added]."

UCP 400 and UCP 500 inherited a similar type of definition with slight modifications in the wording and the role of the issuing bank and defined beneficiary from the payment, i.e., drawing perspective. This helped to identify the beneficiary as one who is entitled to draw under a credit transaction. The UCP 600 Drafting Group added a new dimension while defining the beneficiary in article 2 as "Beneficiary means the party in whose favour the letter of credit is issued [emphasis added]."

The reason for this paradigm shift was not specifically identified in the Commentary on UCP 600. It may be that the UCP 600 Drafting Group wanted the definition to be consistent with the under taking of the issuing bank as stipulated in sub-article 7 (b): "An issuing bank is irrevocably bound to honour as of the time it issues the credit [emphasis added]."

Use in UCP 600

The term "beneficiary" appears 63 times in UCP 600, of which 31 are to be found in article 38. A sharp distinction between the first and second beneficiary is maintained throughout article 38, but is not found elsewhere in the rules. According to sub-article 38 (b): " ... A transferable credit may be made available in whole or in part to another beneficiary ('second beneficiary') at the request of the beneficiary ('first beneficiary') [emphasis added]."

Reading the above sub-article in conjunction with the definition of beneficiary leads me to the conclusion that the definition does not include the second beneficiary. There are also other places where the word "beneficiary" only refers to the first beneficiary. The first paragraph of article 4, for instance includes: " ... is not subject to claims or defences by the applicant resulting from its relationships with the issuing bank or the beneficiary". Paragraph 2 of the same article reads: "A beneficiary can in no case avail itself of the contractual relationships existing between banks or between the applicant and the issuing bank [emphasis added]." Both of the above paragraphs refer to no one but the beneficiary with whom the applicant has a contractual relationship and thereby does not include the second beneficiary.

In addition, according to sub-article 10 (a) of UCP 600: "Except as otherwise provided by article 38, a credit can neither be amended nor cancelled without the agreement of the issuing bank, the confirming bank, if any, and the beneficiary [emphasis added]."

The above exception was previously incorporated in UCP 500 sub article 9 (d) (i) for the following reasons: (i) in case of a partial transfer, every second beneficiary, if there is more than one, has the right to accept or reject an amendment; and (ii) to avoid a situation in which the beneficiary of the first credit receives an amendment and is not interested in advising it to a second beneficiary who is the beneficiary of the transfer (for example, if there has been an increase in the unit price of the goods which would increase the profit of the first beneficiary if the same increase is not passed on by amendment to the second beneficiary). With regard to (ii) above, an amendment can also be added to the first credit without the consent of the second beneficiary (beneficiary of the transfer).

Sub-article 14 (j) of UCP 600 states in part: " ... However, when the address and contact details of the applicant appear as part of the consignee or notify party details on a transport document subject to articles 19, 20, 21, 22, 23, 24 or 25, they must be as stated in the credit [emphasis added]." In a transferable credit transaction, when the first credit requests the names of the consignee or notify party as the applicant on a transport document, there are two possible alternatives for a transferring bank when transferring the credit (depending upon the terms stipulated on the transferable credit]:

1. The name of the applicant on transferable credit must be exactly as stipulated in the transferred credit (when the transferable credit specifically requires it); and

2. The name of the applicant on the transferable credit may be replaced by the first beneficiary.

In either of the above cases the name of second beneficiary cannot appear as either the notify party or the consignee on a transport document.

Furthermore, according to sub-article 18 (a) (ii): "A commercial invoice must be made out in the name of the applicant (except as provided in sub-article 38 (g)) [emphasis added]." If we read the above sub-article in line with sub article 38 (g), which reads in part: "The name of the first beneficiary may be substituted for that of the applicant in the credit [emphasis added]", we can infer that the applicant in the transferred credit may indicate the name of the first beneficiary if the credit has been transferred in this manner.

It is also useful to compare UCP sub-articles 37 (c) and 38 (c). Sub-article 37 (c) paragraph 2 reads: "If a credit states that charges are for the account of the beneficiary and charges cannot be collected or deducted from proceeds, the issuing bank remains liable for payment of charges [emphasis added]." Whereas 38 (c) reads: "Unless otherwise agreed at the time of transfer, all charges (such as commissions, fees, costs or expenses) incurred in respect of a transfer must be paid by the first beneficiary [emphasis added]." We can infer that a transferring bank is not obligated to transfer the credit until it has been paid by the first beneficiary unless otherwise agreed.

Apart from the above references, the word "beneficiary" has been incorporated in article 2's definitions of "honour" and "negotiation"; article 3 paragraph 6; sub-articles 6 (e), 7 (c), 8 (c), 9 (c), 9 (a), (c) and (f ), 10 (b), (c) and (f ), 12 (a) and so on. In these articles and sub-articles, the term "beneficiary" includes both the first and second beneficiary.

My view is that, in considering all of these various articles and sub-articles, the use of the term "beneficiary" remains ambiguous.

Implications of article 1

According to article 1 of UCP 600, the rules "are binding on all parties thereto unless expressly modified or excluded by the credit". The essential parties to every letter of credit transaction are the issuing bank, the confirming bank and the beneficiary (assuming the confirming bank will add its confirmation and maintain it for any subsequent amendment). An issuing bank, according to sub-articles 7 (b) and 10 (b), is irrevocably bound to honour as of the time it issues the credit and issues an amendment. According to sub-articles 8 (b) and 10 (b), a confirming bank (if any). is irrevocably bound as of the time when it it adds it confirmation and extends its confirmation to an amendment.

Under UCP 600, the beneficiary is bound when it presents the document(s) to the issuing or nominated bank. In this respect, see sub-articles 7 (a) and 8 (a), i.e., "provided that stipulated documents are presented to the nominated bank or to the issuing bank ... [emphasis added]".

Hence, before the presentation of document(s), the party on whose behalf the letter of credit is issued, i.e., the beneficiary, is not bound by UCP 600. Therefore, in my view, the words in article 1, "they are binding on all parties thereto", is misleading, since there is a gap between the time the issuing bank and confirming banks are bound, namely when the credit is issued and leaves their operational control, and the time the beneficiary is irrevocably bound, namely when it makes a presentation.

What sets the beneficiary apart in a letter of credit transaction is that he is entitled to draw under the L/C, a feature recognized in other rules of practice such as ISP98 and UCC article 5 (though not in the new URDG 758, which tracks UCP 600).

Conclusion

From the above analysis, my view is that defining beneficiary from an issuance perspective creates some confusion among letter of credit stakeholders with regard to an unresolved issue, namely whether this definition includes the second beneficiary or not. It also is the cause of missing links in the UCP 600 text. If the term beneficiary were to be defined using the phrase "entitled to draw", which is the distinctive feature of a beneficiary, this could reduce controversy and allow the beneficiary to assume its rightful role.

"I see no ambiguity"

by Donald Smith

With utmost respect, I must disagree with my friend Nesarul Hoque. In a transferable letter of credit situation, there is a beneficiary of the original (the "master") credit, and when that credit is transferred there is a beneficiary of the transfer. Because a transfer of a master credit is a subset of the original credit, there is now a "second beneficiary" if you will; he is the first beneficiary of the transferred credit. The definition in UCP 600 article 2 applies to this beneficiary of the transfer as well.

The beneficiary of the transfer also does not have the right to insert himself into the relationship between the issuer and the applicant, as stated in the rules.

I see no ambiguity.

A.T.M Nesarul Hoque is Executive Officer, Bank Asia Limited, Khatungonj Branch in Bangladesh. His e-mail is nesarul@bankasia.com.bd. Special thanks to Ms Rafia Akter, Offic er of Bank Asia Limited, MCB Sk. Mujib Road Branch for support.

Donald Smith, a member of the ICC Banking Commission, is also Chair of the Banking Committee of the US Council for International Business. His e-mail is Don@globaltradeadvisory.com

1. Case Studies on Documentary Credits (UcP 400) case no. 13.

2. UCP 500 & 400 Compared, icc publication no. 511, page 6.

3. UCP 600 & UCP 500 Compared by Professor James E Byrne.

4. Various UcP publications.