How to Work With a Letter of Credit

What is a Draft Letter of Credit?

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics
What is a Draft Letter of Credit?

Understanding the Importance of a Draft Letter of Credit

A letter of credit is a conditional payment method.

An exporter is required to submit documents, which comply with the letter of credit terms and conditions, to the issuing or confirming bank within the specified period allowed in order to receive payment under the letter of credit.

In case of discrepant documents, banks’ payment obligations will be diminished, and exporters can only receive payment if the discrepancies are accepted and cleared by the importers.

To avoid presenting discrepant documents, exporters usually check the letter of credit terms before starting production and request amendments to the letter of credit terms to correct potential issues that may arise.

After an LC is opened in the Swift format, any amendments made to it are subject to an additional fee.

According to the above example, one amendment cost USD 469,23 to the exporter. Multiple amendments mean higher costs.

Almost all LCs include an amendment fee. This amendment fee is a cost that the issuing bank will collect.

In addition to the issuing bank, the advising bank also incurs a fee because it has transmitted the amendment message through the Swift system.

If the LC is confirmed and the confirming bank is different than the advising bank, then the confirming bank will also request a separate Swift message transmission fee for the amendment.

All these costs that may be requested by the issuing bank, advising bank, and confirming bank, if applicable, increase the operational cost of the LC.

The easiest way to avoid all these expenses is to request a draft letter of credit in swift format from the importer before opening the letter of credit.

What are the Differences Between a Draft Letter of Credit and a Letter of Credit?

The draft letter of credit, which is transmitted by the importer to the exporter in Swift format, should cover all details of the actual letter of credit to be opened.

As the letter of credit has not yet been opened, the letter of credit number should not be included in the draft.

In addition, the opening date of the letter of credit should not be mentioned in the draft letter of credit.

Except for these two points, all other information must be included in the draft letter of credit.

What is the Importance of a Draft Letter of Credit

The exporting company should review the draft letter of credit and communicate any necessary corrections to the importer.

The importer should then consult to the issuing bank and inform the exporter whether the requested corrections can be made.

The letter of credit should only be opened after both parties have agreed.

Opening letters of credit directly, without working on a draft letter of credit, can increase costs for the exporter and the operational difficulty level, resulting in additional discrepancy risks.

Summary:

A letter of credit is a conditional payment method that requires exporters to submit compliant documents to receive payment.

Discrepant documents can result in diminished payment obligations by the banks.

To avoid discrepancies, exporters usually check the letter of credit terms and request amendments if needed.

However, amendments made after the issuance of letter of credit come with additional fees, which can be costly for exporters.

To avoid these expenses, importers can provide a draft letter of credit in Swift format before opening the actual letter of credit.

The draft L/C should cover all details except for the letter of credit number and opening date.

Reviewing and correcting the draft letter of credit can help avoid discrepancies and increase operational efficiency.

Draft Letter of Credit Example:

MESSAGE TYPE 700 ISSUE OF A DOCUMENTARY CREDIT ————————————————————————— FLD. TEXT CONTENTS —————————————————————————

27: SEQUENCE OF TOTAL:
1/1

40A: FORM OF DC:
IRREVOCABLE

20: DC NO:
DC ONYX0103207-DRAFT

31C: DATE OF ISSUE:
170215

40E: APPLICABLE RULES:
UCP LATEST VERSION

31D: EXPIRY DATE AND PLACE:
180331HONG KONG

50: APPLICANT:
CAMERA IMPORTER SA 7, RUE BARON 75000 PARIS,
FRANCE
TEL: 01 40 40 90 60 59:

BENEFICIARY:
CAMERA TRADING LTD 5/F HENG SHAN CTR 140 QUEEN’S ROAD EAST WINCHAI HONG KONG CHINA

32B: DC AMT:
USD1000000,00

39A: PERCENT.CRE. AMT TOLERANCE:
TOLERANCE 1 5 / TOLERANCE 2 5

41D: AVAILABLE WITH/BY:
ANY BANK IN HONG KONG BY NEGOTIATION

42C: DRAFTS AT:
180 DAYS AFTER SIGHT

42D: DRAWEE:
ISSUING BANK

43P: PARTIAL SHIPMENTS: ALLOWED
45A: DESCRIPTION OF GOODS:
FCA (MANUFACTURER’S WAREHOUSE) CHINA, INCOTERMS 2010
+ SUPPLY OF

1. CAMERA WIFI 4K 10FPS PHOTO 16M LCD, QUANTITY: 3000PCS,

2. ACTION CAMS, QUANTITY: 1000PCS

AS PER APPLICANT’S PURCHASE ORDER NO. F1700016 DATED 23.02.2017.

46A: DOCUMENTS REQUIRED:

1. USD 300.000,00 PAYABLE AS ADVANCE PAYMENT AGAINST PRESENTATION OF THE FOLLOWING DOCUMENT:

1.1) BENEFICIARY’S SIMPLE RECEIPT FOR ADVANCE PAYMENT ISSUED ON BENEFICIARY’S LETTERHEAD AND DULY SIGNED AND STAMPED BY THE BENEFICIARY. 2. USD 700.000,00 PAYABLE AT 180 DAYS SIGHT AGAINST PRESENTATION OF THE FOLLOWING DOCUMENTS:

2.1) SIGNED COMMERCIAL INVOICES IN ONE ORIGINAL PLUS TWO COPIES STATING THAT GOODS ARE AS PER APPLICANT’S PURCHASE ORDER NO. F0000000 DATED 23.02.2017. THE COMMERCIAL INVOICE MUST SHOW 100 PCT. VALUE OF GOODS SHIPPED, LESS ADVANCE PAYMENT DEDUCTION AS PER CLAUSE NO. 3 OF FIELD 47A.

2.2) PACKING LIST IN TRIPLICATE.

2.3) CERTIFICATE OF ORIGIN ISSUED BY THE CHAMBER OF COMMERCE OR BENEFICIARY.

2.4) ONE ORIGINAL OF FIATA FCR (FORWARDERS CERTIFICATE OF RECEIPT) ISSUED BY (XYZ FREIGHT FORWARDER COMPANY) CONSIGNED TO APPLICANT CERTIFYING THAT HAVING ASSUMED CONTROL OF THE ABOVE-MENTIONED CONSIGNMENT IN EXTERNAL APPARENT GOOD ORDER AND CONDITION WITH IRREVOCABLE INSTRUCTIONS TO BE FORWARDED TO THE CONSIGNEE.

2.5) BENEFICIARY’S CERTIFICATE STATING THAT PRE-SHIPMENT INSPECTION HAS BEEN CARRIED OUT BY AN INDEPENDENT INTERNATIONAL INSPECTION COMPANY BEFORE SHIPMENT AND THE INSPECTION REPORT HAS BEEN EMAILED TO THE APPLICANT. THE INSPECTION REPORT HAS BEEN CHECKED, VERIFIED AND ACCEPTED BY THE APPLICANT.

47A: ADDITIONAL CONDITIONS:

1.TOLARANCE +/-5 IN QUANTITY AND TOTAL AMOUNT IS ACCEPTABLE PER EACH INSTALLMENT DRAWINGS AS EXPLAINED UNDER FIELD 47A-CLAUSE 3.

2.PARTIAL DRAWINGS ARE ACCEPTABLE

3.INSTALLMENT DRAWINGS 3.1) FIRST DRAWING MUST BE COMPLETED BETWEEN 01.MAY.2017 TO 30.JUNE.2017 WITH THE SHIPMENTS OF ARTICLE 1 3.2) SECOND DRAWING MUST BE COMPLETED BETWEEN 01.JANUARY.2018 TO 31.MARCH.2018 WITH THE SHIPMENTS OF ARTICLE 2.

71B: DETAILS OF CHARGES:
ALL CHGS OUTSIDE COUNTRY OF ISSUE FOR ACCOUNT OF BENEFICIARY/EXPORTER

48: PERIOD OF PRESENTATION:
EACH DRAWING MUST BE COMPLETED ACCORDING TO TIME FRAMES EXPLAINED UNDER FIELD 47A-CLAUSE 3.

49: CONFIRMATION INSTRUCTIONS:
WITHOUT

78: INFO TO PRESENTING BK:

* MUST BE COMPLETED BY THE ISSUING BANK

Letter of Credit Condition: LCL/LCL Shipment Prohibited

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics, Logistics ,
Letter of Credit Condition: LCL/LCL Shipment Prohibited

LCL is an abbreviation that is used mostly in international shipping. Its long form is Less than Container Load (LCL).

In an LCL shipment, a freight forwarder finds at least two exporters, who would like to ship smaller volumes of cargo from the same port of loading to the same port of discharge.

Then the freight forwarder consolidates these smaller load units into one full container. Exporters share the freight cost proportionately, based on each volumes of cargo.

LCL shipments can only be arranged by freight forwarders.

LCL shipment is one of the great solutions that our modern international logistics sector provided to us and it is nothing wrong to use an LCL shipment.

However, LCL shipments are not risk free. Because two or more exporters share the same container, anything does not go well for one cargo unit may effect delivery of other cargoes.

In order to eliminate risks may arise from LCL shipments, in some letters of credit transactions issuing banks prohibit LCL shipments.

In these situations, exporters have to comply with the letter of credit terms and make sure that they have shipped the goods in FCL, but not LCL.

Example:

An exporter in Australia signs a sales contract with an importer in Bangladesh to supply of textile chemicals.

Under field 47-A letter of credit states that LCL shipments are prohibited.

47A/Additional Conditions

  • Shipment must be made through FCL/FCL container basics and LCL/LCL shipment strictly prohibited.

The exporter presented a FCL bill of lading in order to comply with the letter of credit term. The bill of lading clearly states that the shipment has been affected by FCL/FCL terms.

Blank Back Bill of Lading Not Acceptable

Ozgur Eker (CDCS) Bill of Lading, Bill of Lading Discrepancies, How to Work With a Letter of Credit, Letter of Credit Basics, Letter of Credit Discrepancies, Letter of Credit Documents ,
Blank Back Bill of Lading Not Acceptable

A Blank Back Bill of Lading, also known as Short Form Bill of Lading, is a type of transport document that does not include the terms and conditions of the shipment (contract of carriage) on the back side.

Short form bills of lading are not in high demand.

Especially under the letters of credit payments, issuing banks generally demand long form bills of lading, by simply prohibiting presentation of short form bills of lading.

Some examples are:

  • Short form, blank backed bill of lading not acceptable.
  • Short form, blank backed and freight forwarder bill of lading not acceptable
  • Short form, blank backed, claused stale bill of lading / air way bill not acceptable.
  • Short form, blank backed, charter party and through bills of lading is not acceptable.

What to Do If Letter of Credit Prohibits Presentation of Blank Back Bills of Lading

As an exporter you must examine Field 46A: Documents Required and Field 47A: Additional Conditions.

If you determine that the letter of credit prohibits presentation of blank back/short form bills of lading, you must make sure that the bill of lading you will present contains the terms and conditions of the shipment (contract of carriage) on the back side of the bill of lading.

It is advisable to discuss this issue with your freight forwarder before shipment takes place.

What Happens if Letter of Credit is Silent in Regards to the Period of Presentation

Ozgur Eker (CDCS) Bill of Lading, How to Work With a Letter of Credit, Letter of Credit Basics, Letter of Credit Documents ,
What Happens if Letter of Credit is Silent in Regards to the Period of Presentation

Documents must be presented to the nominated banks within allowed time frame under letters of credit payments.

Otherwise issuing banks or confirming banks raise late presentation discrepancy.

According to the letters of credit rules a presentation consists of a transport document should be presented to the nominated bank within 21 days after the date of shipment, but not later than the expiry date of the letter of credit.

Presentation Period of a Letter of Credit

If the letter of credit does not require presentation of a transport document, then the presentation period does not become effective.

Under such a scenario, the documents must be presented to the nominated bank before the expiry date.

presentation period under letter of credit

If the letter of credit is silent in regards to the period of presentation, the documents must be presented to the nominated bank before the expiry date, when the letter of credit does not ask for a transport document.

Example:

A Serbian food exporter signs a proforma invoice with in importer located in Kuwait. The letter of credit amount is 75.000 EUR and partial shipments are not allowed.

Expiry date of the letter of credit is 15.February.2019.

The letter of credit is silent in regards to the presentation period, which means that there is no Field 48 -Period for Presentation indicated in the letter of credit.

Option 1: Letter of credit does not ask for a presentation of a transport document:

  • The beneficiary must present the document to the nominated bank before the expiry date of the letter of credit.

Option 2: Letter of credit asks for a presentation of a transport document:

Under the same scenario, please assume that selected transportation mode is sea shipment and transport document is a bill of lading and latest date of shipment is 10.January.2019.

  • The beneficiary must complete the shipment before 10.January.2019 and presents the document to the nominated bank within 21 days after the date of shipment, but not later than the expiry date of the letter of credit.

Related Articles:

How to Complete a Bill of Lading under a Letter of Credit Payment?

Ozgur Eker (CDCS) Bill of Lading, How to Work With a Letter of Credit, Letter of Credit Basics, Letter of Credit Documents ,
How to Complete a Bill of Lading under a Letter of Credit Payment?

Bill of lading is a transport document covering the carriage of goods by sea.

Letters of credit rules define 4 different types of bills of lading:

  • Multimodal Bill of Lading: (UCP 600 article 19) A type of bill of lading covering at least two different modes of transport such as sea shipment + road transportation.
  • Bill of Lading: (UCP 600 article 20) In general it refers to the transport document which is used in port to port containerized sea shipments, usually issued in negotiable form.
  • Sea Waybill: (UCP 600 article 21) Non negotiable bill of lading. Can not be issued in a negotiable form. Consignee can clear the goods at the port of destination by proving identity.
  • Charter Party Bill of Lading: (UCP 600 article 22) A bill of lading containing an indication that it is subject to a charter party contract. Used in bulk cargo shipments.

On this port I will explain how to complete a bill of lading as it is explained under letters of credit rules UCP 600 article 20.

Step 1 : Analyzing the Letter of Credit:

All documents must be issued according to the conditions of the letter of credit. Bill of lading is not an exception.

As a result a beneficiary who would like to submit a discrepancy free bill of lading must analyze the letter of credit at first instance.

I have already explained how to check a letter of credit as an exporter. This post will be focused on a bill of lading.

Understanding Swift Message Fields Which are Related to the Bill of Lading

Below fields are directly related to the bill of lading and each one must be reviewed carefully.

  1. Field 50: Applicant: Applicant is the importer. Usually issuing banks require that bills of lading show applicants’ details under notify party fields.
  2. Field 59: Beneficiary: Beneficiary is the exporter. Although letters of credit rules state that the shipper or consignor of the goods indicated on any document need not be the beneficiary of the credit, it would be a wise move to mention exact beneficiary details under consignor / shipper fields of the bills of lading.
  3. Field 43P: Partial Shipments: This field determines whether partial shipments are acceptable or not.
  4. Field 43T: Transhipment: This field determines whether transhipment are acceptable or not.
  5. Field 44E: Port of Loading/Airport of Departure: This field indicates the port of loading.
  6. Field 44F: Port of Discharge/Airport of Destination: This field indicates the port of discharge.
  7. Field 44C: Latest Date of Shipment: This field indicates latest date of shipment. Please be careful that date of shipment is a technical term in letters of credit rules. You should understand how date of shipment is determined on a bill of lading.
  8. Field 45A: Description of Goods &/or Services: According to the letters of credit rules in documents other than the commercial invoice, the description of the goods, services or performance, if stated, may be in general terms not conflicting with their description in the credit.
  9. Field 46A: Documents Required: One of the articles under this field usually determines the requirements of the bill of lading.
  10. Field 47A: Additional Conditions: This field may include additional conditions that must be stated on the bill of lading.

Step 2 : Analyzing the Letters of Credit Rules:

Although all of the UCP 600 articles can be related to the document preparation one way or another, it would be meaningful to drill down to the UCP 600 articles that are directly regulating the bills of lading.

Understanding UCP 600 Articles Which are Related to the Bill of Lading

UCP 600 article 20 states that:

a. A bill of lading, however named, must appear to:

i. indicate the name of the carrier and be signed by:

– the carrier or a named agent for or on behalf of the carrier, or
– the master or a named agent for or on behalf of the master.

Any signature by the carrier, master or agent must be identified as that of the carrier, master or agent.

Any signature by an agent must indicate whether the agent has signed for or on behalf of the carrier or for or on behalf of the master.

ii. indicate that the goods have been shipped on board a named vessel at the port of loading stated in the credit by:

– Pre-printed wording, or
– An on board notation indicating the date on which the goods have been shipped on board.

The date of issuance of the bill of lading will be deemed to be the date of shipment unless the bill of lading contains an on board notation indicating the date of shipment, in which case the date stated in the on board notation will be deemed to be the date of shipment.

If the bill of lading contains the indication “intended vessel” or similar qualification in relation to the name of the vessel, an on board notation indicating the date of shipment and the name of the actual vessel is required.

iii. indicate shipment from the port of loading to the port of discharge stated in the credit.

If the bill of lading does not indicate the port of loading stated in the credit as the port of loading, or if it contains the indication “intended” or similar qualification in relation to the port of loading, an on board notation indicating the port of loading as stated in the credit, the date of shipment and the name of the vessel is required. This provision applies even when loading on board or shipment on a named vessel is indicated by pre-printed wording
on the bill of lading.

iv. be the sole original bill of lading or, if issued in more than one original, be the full set as indicated on the bill of lading.

v. contain terms and conditions of carriage or make reference to another source containing the terms and conditions of carriage (short form or blank back bill of lading). Contents of terms and conditions of carriage will not be examined.

vi. contain no indication that it is subject to a charter party.

b. For the purpose of this article, transhipment means unloading from one vessel and reloading to another vessel during the carriage from the port of loading to the port of discharge stated in the credit.
c.

i. A bill of lading may indicate that the goods will or may be transhipped provided that the entire carriage is covered by one and the same bill of lading.

ii. A bill of lading indicating that transhipment will or may take place is acceptable, even if the credit prohibits transhipment, if the goods have been shipped in a container, trailer or LASH barge as evidenced by the bill of lading.

d. Clauses in a bill of lading stating that the carrier reserves the right to tranship will be disregarded.

Step 3 : Make Sure That Data on Bill of Lading is not Conflicting with Data on Other Documents:

Data in a document, when read in context with the credit, the document itself and international standard banking practice, need not be identical to, but must not conflict with, data in that document, any other stipulated document or the credit.

For example description of goods, gross weight, net weight, product classification codes, shipping marks, packaging, quantity of goods etc. as stated on the bill of lading must not conflict with data in any other stipulated document.

Example: Letter of Credit and Presented Bills of Lading

Sample Letter of Credit

F50: Applicant

BAHRAIN ELECTRONIC MACHINES IMPORTING COMPANY W.L.L. P.O.BOX:33078 KINGDOM OF BAHRAIN

F59: Beneficiary

Name and Address:

ILKE MAKINA TAAHHUT MADEN SANAYI VE TICARET-LIMITED SIRKETI, OSTIM SANAYI SITESI BAGDAT CADDESI NO.392 OSTIM/ANKARA/TURKEY

F43P: Partial Shipments

NOT ALLOWED

F43T: Transshipment

ALLOWED

F44E: Port of Loading/Airport of Departure

TURKEY

F44F: Port of Discharge/Airport of Destination

BAHRAIN

F44C: Latest Date of Shipment

161115 2016 Nov 15

F45A: Description of Goods and/or Services

SPARE PARTS AS PER PROFORMA INVOICE REF: T16-100 CFR: BAHRAIN (INCOTERMS 2010)

F46A: Documents Required

ARTICLE 3- FULL SET OF SHIPPED (ON BOARD) MARINE BILLS OF LADING IN 3/3 ORIGINALS ISSUED BY SHIPPING CO’S ON IT’S LETTER HEAD FORMAT ISSUED TO THE ORDER OF THE HOUSING BANK FOR TRADE AND FINANCE, BAHRAIN BRANCH SHOWING FREIGHT PREPAID AND MUST INDICATE ONLY THE APPLICANT AS A NOTIFY PARTY AND MUST INDICATE NAME AND ADDRESS OF THE SHIPPING COMPANY’S AGENT IN BAHRAIN.

THE MARINE B/L MUST CLEARLY INDICATE THE NAME OF THE CARRIER AND CLEARLY STATES ITS FUNCTION/QUALITY IN THE FOLLOWING STRICT MANNER: ”THE CARRIER” AND NOT ”AS CARRIER” AND BILL OF LADING MUST SHOW PACKING OF THE GOODS IN SEAWORTHY PACKING AS PER ISO STANDARD.

B/L MUST SHOW THAT GOODS SHIPPED IN CONTAINERS.

F47A: Additional Conditions

ALL DOCUMENTS MUST BE DATED AND INDICATE THIS L/C NUMBER AND THE HOUSING BANK
FOR TRADE AND FINANCE,BAHRAIN BR. NAME AND ISSUANCE DATE.

B/L MUST SHOW THE CONTAINER(S) AND SEAL(S) NUMBER(S) ALWAYS WHENEVER SHIPMENT
EFFECTED BY CONTAINER(S).

B/L ISSUED AND/OR SIGNED BY FREIGHT FORWARDER IS NOT ACCEPTABLE.

SHORT FORM B/L IS NOT ACCEPTABLE.

SHIPPER OR CONSIGNOR OF THE GOODS INDICATED ON ANY DOCUMENTS MUST BE THE
BENEFICIARY OF THE CREDIT.

ALL REQUIRED DOCUMENTS MUST BE ISSUED IN ENGLISH LANGUAGE.

DOCUMENTS APPEARING DATE OF ISSUANCE PRIOR TO THAT OF THIS CREDIT ARE NOT
ACCEPTABLE.

ALL ORIGINAL TRANSPORT DOC’S REQUIRED UNDER THIS L/C MUST BE PRE-PRINTED
THE WORD ”ORIGINAL”

BILL OF LADING MUST APPEAR A SEPARATE NOTATION STATING ”CONTAINERS ACTUALLY LOADED ON BOARD+VESSEL NAME+PORT OF LOADING NAME+DATE”DULY  SIGNED BY THE SAME SIGNOR OF THE BILL OF LADING ”

Bill of Lading Page 1

Bill of Lading Page 2

Related Articles:

Approval Basis

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics
Approval Basis

Definition: Approval basis is a letter of credit term used in situations where the beneficiary could not prepare the documents according to the letter of credit terms and asks the presenting bank to send the documents to the issuing bank as it is by indicating each discrepancy.

Explanation: Letter of credit is a conditional payment method. The issuing bank is obligated to pay for the credit amount to the beneficiary only against a complying presentation.

If the issuing bank determines that the presentation is not complying, which means that the documents contain discrepancies, then the issuing bank should approach the applicant for a waiver of the discrepancies.

If the applicant accepts the documents with discrepancies, then the issuing bank can pay the credit amount to the beneficiary by deducting the discrepancy fee.

Approval basis is an option available to the beneficiary.

If the beneficiary ascertains himself that the documents are discrepant and there is no chance that the issuing bank fails to notice them, then the beneficiary may want to fasten the process by having sent the documents under approval basis.

What are the Advantages and Disadvantages of Documents Sent under Approval Basis?

Advantages Approval Basis

  • Beneficiary may be able to send the documents faster to the applicant.
  • Applicant may be able to receive documents faster so that demurrage and detention charges may be eliminated or restricted.

Disadvantages Approval Basis

  • Payment guarantee of the issuing bank diminishes as the issuing bank can not pay the credit amount until getting the applicant’s approval.
  • Beneficiary can not receive the payment without getting any approval from the applicant.
  • Payment method should be regarded as a documentary collection rather than a letter of credit, but letter of credit rules will apply and letter of credit fees will be deducted.

What is the Difference Between on Approval Basis and Collection Basis?

Although collection basis and approval basis are used with the same meaning in letters of credit terminology, it is possible to make some distinction.

Collection Basis

Collection basis may refer to the situation in which the beneficiary would prefer to send discrepant documents to the issuing bank under documentary collection rules. (URC 522)

In such a scenario the issuing bank must act according to instructions sent by the presenting bank’s cover letter. Under documentary collections banks do not check the documents.

Approval Basis

Approval basis may refer to the situation in which the beneficiary would prefer to send discrepant documents to the issuing bank under the letters of credit rules. (UCP 600)

Letter of Credit Examples:

  1. SENDING DOCUMENTS UNDER COLLECTION BASIS OR ON APPROVAL OR TRUST BASIS WITHOUT INDICATING DISCREPANCIES ARE PROHIBITED.

Freight Notations Under Letters of Credit: Freight Prepaid or Freight Collect

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics ,
Freight Notations Under Letters of Credit: Freight Prepaid or Freight Collect

The freight notation is a specific reference included in the transport document that indicates whether the shipper has already paid the freight costs in advance, labeled as “freight prepaid,” or if the consignee is responsible for paying the transport costs upon the goods’ arrival at the destination, labeled as “freight collect,” or “freight payable at destination.”

In the case of charter party contracts, the freight notation may indicate “freight payable as per charter party” instead of “freight collect,” or “freight payable at destination.”

Which Party Pays the Freight Costs? Exporter or Importer?

Determining the party who arranges the transportation and pays for the transport cost is one of the major decisions in any international trade transaction.

The agreed terms of delivery, also known as incoterms, determines whether freight charges are to be paid by the exporter or the importer.

If freight charges are to be paid by the exporter, then this must be indicated on the transport document with a freight notation such as Freight Prepaid.

On the other hand, if freight charges are to be paid by the importer, then this must be indicated on the transport document with a freight notation such as Freight Collect.

The Relationship Between Sales Contract, Contract of Carriage and Freight Charges

Contract of Sale is the main contract in international trade. It is signed between the exporter and the importer, and this contract defines each parties’ roles and responsibilities.

Once the sales contract is signed, the exporter and importer start signing additional contracts with third party service providers to complete the transaction.

For example,

  • contract of carriage should be signed with the carrier,
  • insurance contract should be signed with the insurance company,
  • inspection contract should be signed with the inspection company,
  • a contract with customs broker should be signed in order to clear the goods from customs.

The contract of sale determines by whom, either the exporter or the importer, the above mentioned additional contracts should be signed.

contracts in international trade

Incoterms and Freight Charges

According to the Incoterms 2010 rules, the exporter must conclude the contract of carriage with the carrier and pay for the freight under CFR, CIF, CPT, CIP, DAT, DAP, DDP terms.

Freight prepaid is the correct freight notation that should be used on transport documents under CFR, CIF, CPT, CIP, DAT, DAP, DDP trade terms.

Incoterms 2010 rules also dictates that under EXW, FCA, FAS and FOB trade terms the importer must arrange the transportation and pay for the freight charges.

Incoterms and Freight Notation on Transport Documents

Letter of Credit Example:

Introduction:

An exporter from India signed a sales contract with a buyer from United Kingdom for the sales of turmeric.

The sales contract states that the payment term is a confirmed letter of credit payable at sight and the transport document is a marine bill of lading.

And the trade term is CFR Cost and Freight. (CFR Port of Felixstowe, Incoterms 2010)

According to the incoterms 2010 rules, under CFR trade terms, the seller must contract or procure a contract for the carriage of the goods from the agreed point of delivery, if any, at the place of delivery to the named port of destination or, if agreed, any point at that port.

As a result the freight notation on the marine bill of lading must be “Freight Prepaid“.

Letter of Credit: 

46A: Documents Required

  1. FULL SET OF ORIGINAL SHIPPING COMPANY SHIPPED ON BOARD MARINE  BILL OF LADING TROUGH AN INTERNATIONAL UNIFORM SHIPPING LINES MADE OUT TO THE ORDER OF HSBC BANK, LONDON BRANCH, UK NOTIFY APPLICANT MARKED FREIGHT PREPAID.

Bill of Lading:

  • Bill of lading indicates that “FREIGHT PREPAID”.

Advantages and Disadvantages of Letters of Credit

Ozgur Eker (CDCS) Advantages of Letters of Credit, How to Work With a Letter of Credit, International Payment Methods, Letter of Credit Basics, Letters of Credit ,
Advantages and Disadvantages of Letters of Credit

Letter of credit is one of the payment methods in international trade. Just like other payment methods it has certain advantages and disadvantages.

Advantages of letter of credit:

  • It simply works: In some situations, letter of credit works when other payment options not.
  • It is a balanced payment option: Importers and exporters could reach reasonable payment terms via letter of credit.

Disadvantages of a letter of credit:

  • It is expensive: Both exporters and importers have to pay high fees when choosing the letter of credit as a payment option.
  • It is difficult: Letters of credit requires experienced stuff who possess certain amount of trade finance knowledge.

After explaining the advantages and disadvantages of a letter of credit briefly, we can now proceed for further descriptions.

advantages of a letter of credit for exporters and importers

Advantages of a Letter of Credit:

For Exporters:

  1. Reach out New Customers: Establishing a new business connection is not easy. It is difficult to find a new buyer who is ready to make an advance payment to an untested exporter. By offering a letter of credit, the exporter can increase the chance of securing the order.
  2. Increasing Export Coverage: Exporters can increase their export coverage by regional means if they can effectively use letters of credit. For example, letter of credit is the main payment option for majority of the Middle East countries.
  3. Mitigates Default Risk of the Importer: By using a letter of credit, the exporter can replace default risk from the importer to the importer’s bank, because the letter of credit is a conditional payment undertaking of the issuing bank.
  4. Eliminates Importing Country’s Political Risks via Confirmation: By adding confirmation, the exporter can eliminate importing country’s political risks, at least in theory. For further information please read our post “Confirmation and Confirmed Letter of Credit“.
  5. Discounting Possibilities: It is possible to discount letters of credit that do not payable at sight. Once the issuing bank or confirming banks determines that the letter of credit documents are complying, the respected bank can discount the credit.

For Importers:

  1. Proof of Creditworthiness: By issuing a letter of credit from a reputable bank, the importer proves that he is a financially reputable company.
  2. More Favorable Payment Terms: The importer may be able to convince the exporter to work with a deferred payment terms instead of an at sight payment via a letter of credit. As the exporter can discount the credit any time after the complying presentation, deferred payment should not a big issue for him. Most frequently used deferred payment options under the letters of credit are 30 days, 60 days or 90 days after the bill of lading date.
  3. Timely Shipments: Importers can determine the shipment period by using a letter of credit. If the exporter can not shipped the goods on time, he may face a late shipment discrepancy.

disadvantages of a letter of credit for exporters and importers

Disadvantages of a Letter of Credit:

For Exporters:

  • Higher Learning Costs: Letter of credit is one of the most complex fields of the international trade. Exporters acting with lack of letter of credit expertise and experience may face unpleasant consequences.
  • Higher Bank Fees: Exporters may have to pay high letter of credit fees to the banks under different names comparing to other payment methods.
  • Time Consuming Procedures: Letter of credit is a conditional payment undertaking of the issuing bank. The condition is known as complying presentation. Making a complying presentation is not easy and a very time consuming process.

For Importers:

  • Fraud Risks: While not common, it is possible that exporters can reach to the funds under letters of credit by submitting fraudulent documents.
  • Higher Bank Fees: Just like exporters, importers have to pay high letter of credit fees to the banks under letters of credit transactions.
  • Risks Associated with Shipment of Low Quality Goods: It is not easy to stop payment under the letter of credit once the issuing or confirming bank determines complying presentation. The importer may have to pay for the goods not consistent with the sales contract.

Is It Possible to Submit 2 Sets Bills of Lading Under One Letter of Credit Presentation?

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics
Is it possible to submit 2 bills of lading under one letter of credit presentation?

Amer from Ajman (United Arab Emirates (UAE)) asks this question. I would like to thank him once again for this great question.

Question: I have an L/C as follows:

  • 43P: Partial Shipment: Allowed
  • 43T: Transshipment: is not Allowed.

I shipped the goods in 5 container as below. Which means that I had submit 2 B/L s for the same L/C. Please keep in mind that all other details will be the same.

Can I know is it allowed to submit 2 B/L for my L/C.

Thanking you.

  • 2 container in one vessel on 11/02/2014
  • 3 container in another trip on 18.02/2014

Answer: First of all, we need to determine that the shipment, which is effected as indicated above, could be accepted as a partial shipment or not.

UCP 600 article 31 states that a presentation consisting of one or more sets of transport documents evidencing shipment on more than one means of conveyance within the same mode of transport will be regarded as covering a partial shipment, even if the means of conveyance leave on the same day for the same destination.

partial shipment letter of credit

As indicated in UCP 600 if more than one means of conveyance has been affected under one letter of credit presentation this will be regarded as a partial shipment.

We understand from Amer’s explanations that he has been used two means of conveyance on his shipments. He has loaded two containers to vessel A on 11.February.2014 and remaining 3 containers to Vessel B on 18.February.2014.

After determining that partial shipment has been effected on this presentation, we need to look at the letter of credit text in order to understand, whether partial shipment was allowed or not.

Again, we can see from Amer’s information that partial shipment is allowed under respected documentary credit.

Conclusion: Partial shipment has been effected on these shipments and letter of credit allows partial shipments. As a result, beneficiary can submit two sets of bills of lading under the same presentation without any problem.

What Happens if Due Date of a Letter of Credit Falls on a Bank Holiday?

Ozgur Eker (CDCS) How to Work With a Letter of Credit, Letter of Credit Basics , ,
What happens if due date of a letter of credit falls on a bank holiday?

Letter of credit is a conditional payment method. It is only payable if the issuing or confirming bank determines that the presentation is complying.

Once, either the issuing bank or the confirming bank determines that the presentation is complying, the letter of credit amount must be paid to the beneficiary on due date.

But what happens if the due date of an L/C is a non-banking day or bank holiday? On this post I will answer this question.

However, first of all I must define the bank holiday term according to the international letter of credit rules. What is a banking day as per ICC? How a banking day is defined under the International Standard Banking Practices?

UCP 600 defines banking day as follows:

“Banking day means a day on which a bank is regularly open at the place at which an act subject to these rules is to be performed.”

We should understand from the definition of the ICC is that if an issuing bank or confirming bank is open on a day to conduct letter of credit transactions, then that day will be defined as a banking day.

If an issuing bank or confirming bank is not open to conduct letter of credit transactions, then it will be understood as a non-banking day or bank holiday.

According to ISBP 745:

“Payment must be available in immediately available funds on the due date at the place where the draft or documents are payable, provided such due date is a banking day in that place. If the due date is a non-banking day, payment will be due on the first banking day following the due date.”

We understand from ISBP’s definition that if the due date of a letter of credit falls on a bank holiday, then the payment will be made the on the first banking day following the due date.

Case Study : Does a Saturday count as a “banking day”?

If an issuing bank, confirming bank or nominated bank is open on a Saturday to operate, among its other duties, documentary letter of credit transactions, then that half or full day will be classified as one of the “five banking days following the date of receipt of the documents”. As per UCP 600 there is no difference between a full working day or half working day when determining a banking day. If a bank’s letter of credit department is open on Saturday, then it will be deemed to be a banking day.