Letter of Credit, a binding document that a buyer can request from his bank in order to guarantee that the payment for goods will be tranferred to the seller. Basically, a letter of credit gives the seller reassurance that he will receive the payment for the goods. In order for the payment to occur, the seller has to present the bank with the necessary shipping documents confirming the shipment of goods within a given time frame. The Letter of Credit is often used in international trade to eliminate risks such as unfamiliarity with the foreign country, customs, or political instability.
The Process of Dealing with Letter of Credit.
1. Assume that the person “A” want to buy goods value of “X” from “B” company which is in another country. “A” holds a account in “C” bank while “B” holds a account in “D” bank. Then ‘A’ requests a letter of credit value of “X”.
2. Then after paying the full amount and the fee to the “C’ bank by ‘A’ , ‘C’ bank will issue a copy of letter of credit to the ‘D’ bank informing to the ‘B’ that value of goods will be paid after presentation of the documents in accordance with the letter of credit. Normally bank will charge as fee for lc in between 1% and 8% of the face value of the ‘LC’.
3. After confirm that the ‘B’ has fulfill the requirements according to the l/c ‘C’ bank will transfer the full amount of money to ‘D’ bank and ‘D’ bank will pay that money to ‘B’.