How a letter of credit transaction is initiated. Features of an overseas commercial contract & terms of payment. Initial quote / confirmed order / contract. Features of a commercial contract - Sale / Purchase order . Everything they have agreed between themselves Evidence of contract
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Features of a commercial contract - Sale / Purchase order • Everything they have agreed between themselves • Evidence of contract • Record of agreed goods • Record of agreed time of delivery • Record of agreed terms of delivery • Record of agreed point of delivery • Record of agreed method of payment • Design can vary but not the contents • First document to bring parties together • Any inaccuracy or inconsistency may have legal repercussions if shipment is not as per contract
Essential details in a contract • Details of buyer / seller – with full address • Manufacturer – Seller – buyer – end user…. • Method of despatch • Terms of delivery • Exact point at which risks and responsibilities pass from seller to buyer (INCO TERMS 2000) • References / dates – FAV (first available vessel) /ASAP • Appointment of freight forwarder • Method of payment • Documentation • Insurance • Other instructions
Four main categories of charges / cost • Despatch, carriage, delivery • Customs clearance for export / import • Service / assistance rendered in addition • Insurance
Charges / expenses • Loading at sellers premises • Domestic pre carriage • Contract of carriage and despatch • Trade documentation – exportation • Customs clearance – exporting country • Export charges • Transshipment charges • Transportation equipment & accessories
Transport – cargo – insurance • International main carriage • Transhipment at terminal • Trade document in country of import • Customs clearance at importing country • Import charges • Local cortege • Unloading at buyers premises • Others…
INCO TERMS 2000 • EXW EX-WORKS (place) • FCA FREE CARRIER (place) • FAS FREE ALONGSIDE SHIP (port of loading) • FOB FREE ON BOARD (port of loading) • CFR COST AND FREIGHT (port of destination) • CIF COST INSURANCE FREIGHT (port of destination)
INCOTERMS CONTD • CPT CARRIAGE PAID TO (Place of destination) • CIP CARRIAGE INSURANCE PAID TO (place of destination) • DAF DELIVERED AT FRONTIER (place of delivery) • DES DELIVERED EX SHIP (port of destination) • DEQ DELIVERED EX QUAY(private ports of buyer)
INCO TERMS CONTD • DDU DELIVERED DUTY UNPAID (place of destination) • DDP DELIVERED DUTY PAID (place of destination)
Terms of payment • Documents on collection basis • Documentary collection • Direct collection • Consignment basis • Advance Payment • Documentary Credit / Letter of Credit
Establishing Letter of Credit State Bank Mumbai Aramco UAE 1 3 2 SALE CONTRACT • LC application submitted by the applicant to the issuing bank • LC established by issuing bank through their correspondent bank with a request to pay on their behalf against submission of prescribed documents by the beneficiary • LC advised- with /without confirmation
NEGOTIATION OF DOCUMENTS UNDER CONFIRMED CREDIT 3 2 6 5 4 1 CONFIRMING BANK ISSUING BANK
BENEFITS OF A CONFIRMED CREDIT • Since the credit is confirmed by confirming bank they have a commitment to pay to the beneficiary if ‘credit complied’ documents are presented • Their undertaking will be an additional undertaking in addition to the issuing bank’s undertaking • Beneficiary is more comfortable under this arrangement since he is assured of payment immediately on submission of documents
NEGOTIATION OF DOCUMENTS IN UNCONFIRMED CREDITS 6 2 3 5 4 1 ISSUING BANK NEGOTIATING BANK
UNCONFIRMED CREDIT PAYMENT BY A NEGOTIATING BANK… • Even though Negotiating bank does not have any commitment to pay, they pay value against set of credit complied documents drawn under a letter of credit to the beneficiary.
Reimbursement under LC transaction LC Issuing Bank 1 2 3 Reimbursing Bank Claiming Bank CB / NB 4
DOCUMENTARY CREDIT….. • An arrangement whereby a bank acting at the request and on instructions of a customer i.e., the applicant • To make payment to a third party (the beneficiary) by themselves or authorize other bank to pay or negotiate • Against stipulated documents Provided • Terms and conditions of the credit are complied with
Inland letter of credit buyer 6 4 seller 2 5 3 1 Sellers Bank Issuing bank
PARTIES TO DOC. CREDIT • Applicant • Beneficiary • Issuing bank • Advising bank • Confirming bank • Negotiating bank • Reimbursing bank
TYPES OF CREDIT • Irrevocable/revocable • Confirmed /unconfirmed • Restricted/free • Transferable • Back to back • Revolving • Deferred • Red clause/Green clause • Standby
Revocable / Irrevocable • A revocable credit can be cancelled at any moment without prior notice to the beneficiary. However the issuing bank is bound to reimburse the Negotiating the bank if they had paid value before receiving information of cancellation from the Issuing Bank. • An irrevocable credit is a definite undertaking and cannot be amended or cancelled without the agreement of the issuing bank and the beneficiary and the Confirming Bank, if any.
Confirmed Credit Issuing Bank requests another Bank – can be in the exporter’s country or in the third country to pay to the beneficiary on their behalf against presentation of documents. Once this arrangement is agreed for, then this credit is known as confirmed credit.
Restricted Credit Issuing Bank, while issuing the letter of credit, nominates a specified bank to negotiate the documents under this credit. It means only the nominated Bank will be authorised to negotiate the documents.
Freely Negotiable credit.. • In a freely negotiable letter of credit any bank can negotiate the documents and claim reimbursement. Beneficiary has got the choice of presenting the documents to his own bank and claim payment. This will be advantageous to the exporter.
Beneficiary approaches nominated bank to transfer this L/C in favour of 3 sub suppliers (A, B & C) at 50%, 25%, 25% retaining his profit margin of 10 % .Please note the same L/C is transferred in parts .
Transferable Credit • A LC is transferable only if the issuing bank designates it. • Beneficiary has the right to request the nominated bank to transfer credits in parts or in full in favour of one or more beneficiaries if partial shipment permitted.
Back To Back L/C Beneficiary Global Exports India Ltd. is now becoming the Applicant and requests for opening fresh L/C’s Beneficiary’s Bank UTI Bank Ltd A Karnal B Delhi C Chandigarh UTI Bank at the request of Beneficiary has opened 3 fresh L/C’s
Back to Back • The second set of LC opened by a bank at the request of the exporter is known as Back to Back Credit. ( in case the exporter is not the actual manufacturer) • The beneficiary of the original LC becomes the applicant for the Back to Back LC.
Revolving Credit The amount of drawing is reinstated and made available to the beneficiary again for the agreed period of time on notification of payment by the applicant or on submission of documents.
Deferred Payment Credits • The amount is payable by the Issuing Bank in installments on deferred payment basis. • Partial payment is done in advance and balance in agreed installments according to terms in LC.
STANDBY CREDITS • Promise to honour beneficiary’s presentation of a document indicating the default of the applicant • Act as a standby arrangement in case the obligation is not fulfilled by the applicant
3 1 Goods consigned directly Payment demanded on due date and defaulted by importer 2 3 Standby credit 4 Submission of Draft / Bill of Exchange 7 8 Payment made to Exporter Documents Presented Payment made 6 Payment made Documents forwarded Exporter’s Bank 5 Issuing Bank
STANDBY CREDITS • More useful in collection instruments • On account – consignment sale. • In respect of any debt, obligation or any liability by the overseas party in connection with bonafide trade transaction • As a back up instrument for collection
STANDBY CREDITS.. • To present a copy of commercial invoice & unpaid bill of exchange • ISP 98 issued by ICC is the governing guidelines for this transaction • Reserve bank of India has since permitted authorised dealers to open standby credits to cover import trade transactions….
TYPES OF STANDBY CREDITS.. • Performance standby – to pay the losses arising out of default of the applicant • Advance payment standby • Bid bond / tender • Counter standby – separate standby by the beneficiary • Financial standby – obligation to repay the borrowed money • Commercial standby – applicant to pay for the goods • Insurance standby – to meet reinsurance obligation
Presently used in case of • Export transactions: • Advance payment of the overseas buyer to the exporter can be secured by Standby credit • Direct dispatch of shipping documents to the overseas buyer • Consignment sales • Deferred payments …… if not paid on due date
Sample standby transaction • Documents required in a Standby Credit by an Issuing bank to reimburse the beneficiary: • We are informed by our client that this letter of credit is established as security for any possible claims by (the beneficiary…..) against invoice(s) issued by (the beneficiary…) which has (have) remained unpaid on any of the affiliates of (applicant…. full address). • Funds under this LC available to beneficiary against beneficiary’s sight draft drawn on us accompanied by:
Sample transaction… standby.. • Beneficiary’s separate dated written statement, purportedly signed by one of its authorized representatives reading as: • “We hereby certify that the amount of our drawing USD 500,000, under the Bank of New York irrevocable standby letter of credit no.S.0043903 represents funds due and payable in connection with a certain invoice issued by beneficiary and addressed to (name of the applicant…)which is past due and remain unpaid as of the date of this drawing”.
Import transactions... • Default of payment by the importer in case of suppliers credit and buyers credit • Risk factors: • absence of evidence of shipment/ Insurance documents…..
Who can opt for Import Standbycredits.. • Importers of crude oil & petroleum products • Independent power producers • Status exporters / 100% EOUs • Public Sector Undertakings / Public Limited Companies with good track record
Precautions... • Status report on the seller • invocation of SBC only with supportive documents • declaration of importers default • copy of invoice • non-negotiable bill of lading • Lloyds / SGS inspection certificate
Precautions... • Incorporation of an additional clause • In the event of payment being made earlier - provision to dishonor the claim • Subject to Intl.Standby Practices (ISP 98) • certain highlights on ISP 98
ISP 98 • 1.02 - If local laws conflicting with SBC operations, local law will prevail • 3.14 - Expiration day - if closed for transaction - extended to 30 calendar days • Reasonable time for refusal of documents by Issuing Bank / Confirming bank • within 3 days - reasonable • beyond 7 days - unreasonable…..?
One transaction before you… • You intend to import capital goods for your project in India - value USD 4.7 mn • Under the MOU between you and your overseas seller, it is agreed that: • 15% to be remitted as advance payment • 75% on 540th day from the date of shipment covered through letter of credit • 10% on successful commissioning of equipment at the project site. • Advance payment to be remitted…. How safe you are … how to cover yourself • How overseas seller will cover his exposure..