Commodities are traded through importer and exporter. Both the parties may be unknown to each other. When an importer is not well known to an exporter, but the transaction is being conducted directly between importer and exporter, and then uses the services of the bank through a letter of credit.
A letter of credit is a mean of making payment for the import of goods. It is issued by buyer bank in favour of the seller. The terms and conditions of the sales are also stated in it. Letter of credit is also known as “documentary credit
Kinds of letter of credit
1. Revocable L.C:
A revocable L.C is that which can be cancelled or modified or amended by the opener (opening bank) without the consent of his beneficiary (exporter).
2. Irrevocable L.C
An irrecoverable L.C can be cancelled or amended or modified by the opening bank only with the consent of parties involved.
3. Confirmed Irrevocable L.C:
It cannot be amended or cancelled even if there is consent among the parties involved.
4. Red Clause L.C.
This L.C authorizes the exporter’s bank to grant an advance to seller for packing, handling or purchase of goods.
5.Green Clause L.C:
This is an improvement over the red clause letter of credit. In addition to the facilities permissible under red clause L.C. it allows also the storage facilities.
6. Sight L.C:
On shipment of goods to the buyer, the sellers receive the bill of lading then complete the documents; seller gives these documents to the advising bank the advising banks see that whether these documents are in order. If these documents are in order then payment is made to the seller.
7. usance L.C
If in the above case the payment is made after some days or months then such type of L.C is called usance L.C.
Non funded L.C.
In case of non-funded L.C the buyer’s funds are involved in making the payment to the seller. Since the bank funds are not involved it is termed as non-funded L.C.
The issuing bank creates a contingent liability. In this respect which is dependent upon the buyer’s default.
In case of funded letter of credit the issuing bank makes the payment to the seller out of its own sources. Therefore it cannot create a contingent liability.
If there are no conditions to the bill and issuing bank makes payment upto the limit of credit is called the clean L.C.
The draft drawn under this L.C. is accompanied by different documents relating to the merchandise.
It is used where original beneficiary (exporter) is not a manufacturer.
Exporter is middle man.
L.C. is transferable to second beneficiary.
Exporter receives commission in this case.
Transferable is transferable in one time.