Trade Finance

When Issuing Bank is also Applicant of a Letter of Credit: Islamic Finance, Leasing and Issuing Bank’s Own Imports

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When Issuing Bank is also Applicant of a Letter of Credit: Islamic Finance, Leasing and Issuing Bank’s Own Imports

Applicant means the party on whose request the credit is issued. Applicant is the importer in a typical international commercial letter of credit.

Issuing bank means the bank that issues a credit at the request of an applicant or on its own behalf.

Generally issuing banks issue letters of credit with the request of the importers and mentioning their names in the letters of credit under Field 50: Applicant of MT 700 Swift Messages.

But in some situations issuing banks issue letters of credit on their behalf. Please keep in mind that this is totally alright according to the letters of credit rules.

Below you can find some situations under which you can see the issuing bank as an applicant.

Letters of Credit Issued from Islamic Banks

According to the modern economic theories an interest rate is the cost of borrowing money, however Islam prohibits interest rates.

Which means that Islamic Banks in some Arab and Asian countries can not buy or sell money based on interest rates. Instead they buy and resell the goods to the importers to finance import letters of credit transactions.

This type of Islamic Trade Finance is known as Murabaha Financing.

According to the Murabaha Financing the issuing bank and the importer signs a sales contract.

According to this sales contract the issuing declares the importer as its agent and the importer agrees to pay the goods from the issuing bank on higher amount than the original contract amount that was determined between the importer and the exporter previously.

The issuing bank requests all shipping documents to be under its name, at the same time appointing the importer as its agent, which means all formalities outside of the letter of credit will be made by the importer as an agent of the issuing bank.

Later on, when the issuing bank receives the documents complying the terms and conditions of the letter of credit:

  1. Pay proceeds to beneficiary.
  2. Endorse and release documents to the real buyer against Murabaha Financing.

Issuing Bank Open a Letter of Credit for Its Own Procurement

It is also possible that the issuing bank is procuring goods for its own consumption (IT equipment, furniture, etc), it may well designate itself as the applicant under its own Letter of credit.

Letter of Credit Issued under a Leasing Agreement:

It is also possible that the issuing bank is a part of an international leasing operation.

The actual buyer may be using “leasing” as the financial instrument for purchasing the equipment, machinery or other assets where the bank is lessor (owner) and the end-buyer (the actual buyer) is the lessee (user) in this method.

References:

  1. UCP 600, Uniform Customs and Practice for Documentary Credits
  2. How does Trade Based (Murabaha) Financing Work?, Amana Bank Youtube Channel

ICC Uniform Rules for Forfaiting (URF 800)

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ICC Uniform Rules for Forfaiting (URF 800)

Forfaiting means the sale by the seller and the purchase by the buyer of the payment claim on a without recourse basis.

In other words, forfaiting is discounting of trade‐related receivables secured with trade finance instruments such as bills of exchange, promissionary notes or deferred payment letters of credit.

In the U.S., forfaiting is known as “structured trade finance”, and every year more than USD 300 billion of world trade takes place using forfaiting.

ICC Uniform Rules for Forfaiting which is called URF 800 is the first set of rules which governs both international and domestic forfaiting transactions.

These rules went into effect on January 1, 2013.

URF 800 is created by the experts from ICC (International Chamber of Commerce) and ITFA (International Trade and Forfaiting Association) with a spread of expertise – marketing, operational and legal – and geographical location.

What are the Headings of URF 800?

You can find table of contents of Uniform Rules for Forfaiting below. Uniform Rules for Forfaiting consists of total 14 articles and 4 annexes.

Table of Contents of URF 800 Rules

FOREWORDS
INTRODUCTION
Article 1 Application of URF
Article 2 Definitions
Article 3 Interpretations
Article 4 Without recourse
Article 5 Forfaiting agreements in the primary market
Article 6 Conditions in the primary market
Article 7 Satisfactory documents in the primary market
Article 8 Forfaiting confirmations in the secondary market
Article 9 Conditions in the secondary market
Article 10 Satisfactory documents in the secondary market
Article 11 Payment
Article 12 Payment under reserve
Article 13 Liabilities of the parties
Article 14 Notices

ANNEXES
Annex 1 Master Forfaiting Agreement
Annex 2 Forfaiting Agreement
Annex 3 Forfaiting Agreement in SWIFT format
Annex 4 Forfaiting Confirmation

ICC Uniform Rules for Forfaiting URF 800 English Version

How URF 800 Can be Applied to Forfaiting Transactions ?

All ICC rules which are related to international trade require express incorporation into the agreements.

For example, the UCP 600 rules will apply to the letters of credit when the text of the credit expressly indicates that it is subject to the UCP 600.

The Uniform Rules for Forfaiting (URF 800) are no exception.

URF 800 rules apply to a forfaiting transaction when the parties expressly indicate that their agreement is subject to these rules.

They are binding on all parties thereto except so far as modified or excluded by agreement.

Some Important Benefits of ICC Forfaiting Rules:

According to Silja Calac, who was the chair of the task force that gathered from both ICC and ITFA to create URF rules, what the UCP (Uniform Customs & Practice for Documentary Credits, ICC publication 600) has achieved for the management of risk in international trade, the URF (ICC publication 800) will hopefully bring to the funded side of trade – not only international trade, but also even domestic receivables financing.

She also believes that “the URF will be highly beneficial for exporters intending to sell down their claims related to their trade finance transactions.

Referring to clear rules in the documentation will save corporates high legal costs, improve certainty and enhance business because each party will know exactly what to expect.”

Where to Buy the URF 800 Book?

You can buy ICC Uniform Rules for Forfaiting (URF 800) Including Model Agreements ICC Publication No. 800 , 2013 Edition from this link:

How Forfaiting Works?

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How Forfaiting Works?

Forfaiting is an international supply chain financing methods.

Forfaiting means the discount of future payment obligations on a without recourse basis.

In other words, forfaiting is discounting of trade‐related receivables secured with trade finance instruments such as bills of exchange, promissionary notes or deferred payment letter of credit.

In the U.S., forfaiting is known as “structured trade finance”, and every year more than USD 300 billion of world trade takes place using forfaiting.

What are the Main Characteristics of Forfaiting?

Forfaiting is an international trade finance tool.

It helps exporters or international manufacturing companies to reach cash flow by selling their debts, which are mostly supported by a bank guarantee, or trade‐related receivables secured with trade finance instruments such as bills of exchange, promissionary notes or deferred payment letter of credit proceeds with a discounted price to the forfaiting companies.

Exporters sell their debts under a forfating agreement without recourse basis, which means that once the debt is sold the non-payment risk passes to the forfaiter.

What would be happening to the original payment obligation will not be concerning the sellers after that point.

  • Forfaiting can be applied to a wide range of trade related and purely financial receivables typically have maturities from 3 months to 10 years.
  • Forfaiting can be applied to both international and domestic transactions.
  • 100% financing without recourse to the seller of the debt
  • The payment obligation is often but not always supported by a bank guarantee
  • The debt is usually evidenced a legally enforceable and transferable payment obligation such as a bill of exchange, promissory note or letter of credit.
  • Transaction values can range from US$100,000 to US$200 million
  • Debt instruments are typically denominated in one of the world’s major currencies, with Euro and US Dollars being most common.
  • Finance can be arranged on a fixed or floating interest rate basis. (1)

Basic Forfaiting Transaction Explained with the Help of an Illustration

Below you can find basic forfaiting transaction which is explained with help of an illustration.

Figure 1 : Basic Forfaiting Transaction

  • Step 1 : Forfaiter and Exporter agreed upon a Forfaiting Agreement.
  • Step 2 : Sales Contract has been signed between Exporter and Importer.
  • Step 3 : Shipment is initiated by the exporter.
  • Step 4 : The importer obtains a guarantee from his bank.
  • Step 5 : The importer obtains a guarantee from his bank.
  • Step 6 : Exporter gives documents to forfaiter.
  • Step 7 : Forfaiter controls the documents pays for them as indicated on the Forfaiting Agreement.
  • Step 8 : Forfaiter presents documents to bank at maturity date.
  • Step 9 : Importer pays to bank at maturity date.
  • Step 10 : Bank pays to forfaiter at maturity date.

Sources:

  1. ITFA Website : http://itfa.org/trade-forfaiting/what-is-forfaiting/