Documentary Letter of Credit [Archives:2004/788/Education]

By Sa'eeda Obaid Ali Obaid
Hodeidah
Introduction
The term Documentary Credit refers to the boundless field of transactions which is rich with miscellaneous rules to follow, cases to study, and the like. It is one of the best and safest payment commitments in which the two important parties, buyer and seller, are assured of attaining safely their ends; the buyer gets his goods and the seller obtains his money, both through documents.This process is effected through the banks decided on by the buyer and seller.
In Yemen Bank for Reconstruction & Development, Trade Services Department, I was honoured as a trainee to have a short exposure to the practicalities of Documentary Credits and their relative transactions. It was extremely beneficial for me. As the poet remarks “Little drops of water, little grains of sand, make the mighty ocean and the pleasant land”, I got from this limited exposure assured satisfaction.
My voyage came to the end, and I found that a report should be written to record what I learned in a systematic and organized way. With definitions and summerized explanation to the parties concerned in the process, I started the report in order to elaborate what I thought vague at the beginning. The report also illustrates the transactions from which the Documentary Credit is opened till it reaches its end. An illustration for the application form is completely explained to be a reference to me and to anyone may read this humble report. I concluded with a short idea of Collection Basis as another way of payment.

Documetary Letter of Credit
A Documentary Letter of Credit is a payment undertaking by the Issuing Bank on the request of the applicant (buyer), for opening a credit in favour of the beneficiary (seller). Its amount and duration are decided when opening it.
A Documentary Credit is subject to the presentation of stipulated documents to be offered by the beneficiary through his bank, that is why it is called Documentary Letter of Credit.

Interested Parties in Documentary Letter of Credit

Applicant :
An applicant is another name for the buyer who applies to the Issuing Bank for opening a Documentary Credit. The buyer carries out this step on the base of prior contract with the beneficiary to decide on the terms and conditions required. The applicant must follow what has been agreed on, otherwise the beneficiary will ask for an amendment.

Beneficiary
A beneficiary is also called seller. He is the party for whom a Documentary Credit is opened. The beneficiary has to supply the stipulated documents in accordance with the applicant's requirements. He should make sure that all the conditions have been complied with before sending the documents, otherwise payment will not be fulfilled. The beneficiary should be aware enough to avoid the unwanted consequences and wastage of time.

Issuing Bank
Issuing bank is the bank in which the applicant requests opening a Documentary Credit in favour of the beneficiary. The Issuing bank is liable to pay to the beneficiary through his bank and be reimbursed from the applicant. It has to advise the beneficiary's bank of opening the credit. The Issuing bank is also responsible for examining all the documents being received from the beneficiary to ensure that all the terms have been complied with. If the documents are not satisfying, the bank advises the applicant of the discrepancies found and finds out if he accepts them or not. On the other hand, if the documents are accurate and appropriate, the Issuing bank reimburses the beneficiary.

Advising Bank
Advising bank is the bank that advises the beneficiary of opening the Documentary Credit by the applicant through his bank (Issuing bank). The Advising bank is usually a local bank in the beneficiary's country. One task the advising bank performs is to send the documents to the Issuing bank. No payment liability to fall upon it, even if the Issuing bank did not pay the beneficiary. A specific advising bank is sometimes required by the beneficiary.In this case, the Documentary Credit is called “restricted credit “. The credit is, on the other hand, called “unrestricted ” when the beneficiary does not specify the advising bank.

Confirming Bank
The Advising bank may accept to confirm the credit according to the Issuing bank's request. In this case, the liability, like the Issuing bank, falls upon it to reimburse the beneficiary. Since the Advising bank becomes responsible for payment, it has the right to evaluate the Issuing bank's status in order to insure paying back to it.

Reimbursing Bank
Reimbursing Bank is the bank with which the Issuing Bank maintains an account.The Reimbursing Bank can pay to the beneficiary's bank if it is instructed to do so.

The Transactions of Opening A Documentary Credit
In the transactions of opening a Documentary Credit, there are many things to be understood and done by the interested parties.
Before the applicant requests for opening a Documentary Credit in favour of the beneficiary, there should be a contract between them. This contract is usually pictured to a Proforma Invoice. In this invoice, the applicant and the beneficiary decide on the terms and conditions of the credit to be opened. These conditions may include the following :
– Description of goods; quantity, size, unit price, total price tc.
– Delivery terms; FOB, CIF, C&F, or Ex.
– Shipment details; loading port, destination port tc.
– Vessel; age, allowance of entry to the country, and other details.
– Documents; Commercial Invoice, Bill of Lading, Packing List, Certificates of the Vessel tc.

After the applicant and beneficiary completed the contract, the applicant applies for opening a credit through the Issuing bank in favour of the beneficiary named and addressed in the Proforma Invoice. The Issuing bank gives the applicant a form to fill in. This application form is called “REQUEST FOR OPENING DOCUMENTARY CREDIT “.

How Does a Documentary Credit Work ?
In the following lines, the “REQUEST FOR OPENING DOCUMENTARY CREDIT ” as the very beginning step to be taken, will be explained with definitions and explanation for the terms being provided in it.

Types of Documentary Credits
The main two types of Documentary Credits are either “revocable” or “irrevocable”. It should be decided whether the credit is revocable or irrevocable. If it is not, the bank (Issuing Bank) considers the credit irrevocable for its much certainty.

Revocable Documentary Credit
A revocable credit is a credit that can be amended or cancelled by the Issuing Bank (usually follows the instructions of the applicant).This is the main reason, why most sellers do not accept such type. Another proof for its uncertainty is that the Issuing Bank has to reimburse the beneficiary if the buyer cancelled the credit.The revocable credit cannot be cancelled if the required documents were presented, meeting the conditions of the credit.

Irrevocable Documentary Credit
This credit is much certain and liable. In this type, all the interested parties must be advised of any amendment or modification made in the credit. In our circumstances, this type is much used because the beneficiary can guarantee payment to him against appropriate set of documents.
The following types of credits are relative to either the credit is revocable or irrevocable.

Confirmed Documentary Credit
If the credit is stipulated to be confirmed, this means that the Advising bank or any other bank, that accepts to be the Confirming Bank, has similar responsibility like the Issuing Bank to pay to the beneficiary. This condition is usually required by the beneficiary when the applicant's bank,Issuing Bank, has a low credit class or is not well-known among other banks. Including a confirming bank in the credit is much guarantee to the beneficiary to obtain his money.

Unconfirmed Documentary Credit
In an unconfirmed credit, the Advising Bank merely undertakes passing the credit to the beneficiary and advising him of opening the credit. No any other responsibility to fall upon the Advising Bank regarding payment. In this type, the Issuing Bank is the only and mere pary who is liable for payment. No other party concerned is responsible for payment.

Transferable Documentary Credit
If the credit is marked transferable, this means the same credit, either the whole or part of it, can be transmitted to another party (second beneficiary)by the first beneficiary. This type is required when the first beneficiary is not able to fulfill the applicant's order. The applicant in this credit should be aware that the credit is the so-called.

Back-to-Back Documentary Credit
This credit used when the seller (beneficiary) needs another source of goods to fulfill the order of the buyer (applicant).The beneficiary as a reaction opens another credit(s). In the case of back-to-back credit, the beneficiary hides the identity of the second beneficiary from the applicant in order to screen the commission he may get from the second beneficiary. The main difference between transferable credit and back-to-back is the first beneficiary, in the latter credit, opens a new credit in favour of the second beneficiary, whereas in the transferable credit, the same credit is transmitted.

Revolving Documentary Credit
When the applicant wants to import a large quantity of goods,he can opens a revolving credit. In this type,the applicant automatically renews the credit with the same amount and quantity in a certain time defined.

Cumulative Documentary Credit
This credit is very much related to the revolving credit.If the credit is cumulative revolving credit, this means that the beneficiary is permitted to maintain the amount not being involved in the previous specified periods.This amount can be added to the period to follow.

Name and Address of Beneficiary and Applicant
In this term, the beneficiary and applicant's details should accurately be filled in. First, the beneficiary's name and address, second, applicant's name and address. Accuracy is required, so that the potentiality of any discrepancy to ocurr is very little.

Amount of Credit
– Up to the aggregate amount of; the total amount of the credit.
– For an amount not exceeding; the amount should not exceed the mentioned amount.
– For an amount of about; the amount mentioned in the documents may be less or more than the one in the application.
– For an amount of plus or minus %; the percentage of the increased or decreased amount is mentioned.

Terms of Sale (Delivery Terms)
The applicant should tick one of the delivery terms he and the beneficiary agreed about in their contract.
FOB: (Free on Board) this means that the amount includes the cost of the goods and the expenses of delivery of goods on board of a named loading port.
CIF: (Cost,Insurance,Freight) this means the amount includes the cost of goods and the expenses related to insurane and freight. Insurance,in this case, is the beneficiary's responsibility
C&F: (Cost and Freight) the amount includes the cost of the goods and all the transportation and freight charges to the named port of destination.
Ex: the amount includes only the cost of goods. In other words, the buyer bears the transportation charges from factory or warehouse to the loading port, the loading charges from the wharf to the vessel, the freight charges from the loading port to the destination port, and insurance.

Ways of Payment
Here,the applicant chooses the way he pays to the beneficiary.
This is decided according to the contract made.
Sight: The applicant through his bank pays as soon as the documents arrive. Before payment, the Issuing Bank examines the documents to ensure its perfection or imperfection.
Usance: In general, payment is deferred to a certain period decided to be after delivery of documents by applicant and beneficiary.The applicant types the specified period e.g two months from date of B/L.

Documents Required
– Document of clean on board ocean Bill of Lading (document signed which shows receipt by a shipping company “carrier ” of goods to transport to a named port ),Airway Bill (document signed by an airline to indicate transportation of goods by air to destination point), Landway Bill (document signed to indicate overland transportation). The other options indicate transportation by post. This document should show, as indicated in the application,that the order maker is the Yemen Bank For Recon. & Dev. This provides much guarantee to the Issuing Bank. The shipment date, port of shipment and port of destination should be indicated in this document. The document should be marked either Freight Prepaid (in case of CIF & C&F)or Freight Payable at Destination (in case of FOB and Ex ).The document should be notified to the buyer or who may receive the goods on his behalf.
– Insurance to be effected..etc is marked when term of delivery is C&F, FOB or Ex, mentioning the Insurance Company.
– Certificate of Origin (this certificate proves the origin of the
goods ). The no. of original and copies of the certificate is indicated according to buyer's need. The certificate is required to be issued or certified by the Chamber of Commerce of manufacturing country, and legalized by Yemeni or Arab embassy or consulate available in the country orginating the goods.
– Packing List's number (document that particularizes the content of goods being shipped).
– Certificate states that the carrying vessel is not Israeli and is not permitted to load in any Israeli port or like.
– Signed Commercial Invoice (document contains description of goods. This description must correspond exactly to description in the Documentary Credit ) showing the name of manufacturer.
– The applicant should be aware enough when describing the goods. He should also refer to the attached Proforma Invoice for more details.
– The original Commercial Invoice should be also certified by the Chamber of Commerce.

There may be other requirements the applicant has not mentioned in the Proforma Invoice or like.Some of these requirements can be, the trade mark should be printed on carton,details of packing, other required certificates tc.
Here to indicate whether the banking fees and charges are to be borne by beneficiary or applicant.
The applicant should also indicate whether partshipment (shipping in lots ) is allowed or not.
Transshipment means the goods can be carried to another port before they reach the destination port. Sometimes, the vessel may be substituted by another one.
The latest date for negotiation is expiry date of negotiation.
The following is an authorization from the applicant to the bank in which they agree on what is mentioned. This authorization is followed by the applicant's name, account no.,signature and the date.
Note : In the case any correction or modification made in the application form, the applicant's signature or like should be followed.
The applicant after filling in the application form offers it to the bank.
The bank checks the conditions of the application form.
The bank before accepting the application should check the applicant's financial status.
After accepting the application, the applicant offers the”Insurance Cover Note document”. In case the delivery term is CIF,the applicant does not.
The credit is typed by SWIFT(SWIFT is the substituted communication network for Telex in the Yemen Bank)to be sent to The Advising Bank to advise the beneficiary of opening the credit.
The seller checks whether the credit matches the terms of the contract. If there is anything that may cause confusion, an amendment should be requested from the applicant. The applicant asks the Issuing Bank for making and sending the required amendment.
The seller submits the required documents to the Advising Bank. The Advising Bank (Negotiating Bank) checks whether the documents correspond to the terms of the credit.
The documents are sent to the Issuing Bank to also check them for discrepancies. The applicant is notified of the arrival of the documents and discrepancies if found. The discrepancies that may occur are :
* The B/L may not be marked ” Clean on Board “
* The amount mentioned in documents may not conform with the amount in the DC terms.
* The Commercial Invoice may not be legalized by Yemen Embassy.
* The D.O.C. & S.M.C. certificates may not be attached with documents.
* Late presentation of documents.
* Contradiction in the name and address of the beneficiary.
* The no. of DC may wrongly be typed and like.

In the case of acceptance, which is more usual, a message by SWIFT is sent to the Negotiating Bank to inform acceptance.
The Issuing Bank debits the buyer and releases the documents, so that he can claim his goods.
After that, the transaction of payment is made. The Issuing Bank authorizes the Reimbursing Bank to pay to the Negotiating Bank then to the beneficiary

Collection Basis
Collection Basis is another payment transaction which is quicker than the Documentary Credit transaction, but less safe than credit; the seller has no way to guarantee payment to him.In Collection Basis, the task that falls upon the bank is only following up payment to seller on maturity date. No other payment responsiblities to be taken in the account of the bank.
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