The Letter of Credit Process, Step by Step
Two traders, two banks, one set of documents. Here is the order things happen in and the clock on each step.
A documentary credit moves through two banks, two traders and one set of documents. The importer asks its bank to issue the credit, the exporter ships and presents documents, and banks along the chain check those documents against the credit before money moves.
Two principles from UCP 600 sit under every step. The credit is separate from the sale contract (Article 4), and banks deal with documents, not with goods, services or performance (Article 5). Hold on to those and most process questions answer themselves.
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The Parties, as UCP 600 Names Them
- Applicant
- The party on whose request the credit is issued, usually the importer.
- Issuing bank
- The importer's bank, which issues the credit and carries the primary undertaking to honour a complying presentation.
- Advising bank
- The bank that advises the credit to the beneficiary at the issuing bank's request. Advising alone creates no obligation to pay.
- Beneficiary
- The party in whose favour the credit is issued, usually the exporter.
- Nominated bank
- The bank with which the credit is available for payment, acceptance or negotiation, or any bank if the credit is freely available.
- Confirming bank
- A bank that adds its own undertaking to the issuing bank's, at the issuing bank's authorisation or request.
The Life of a Credit, Step by Step
- 1
Sale contract agrees payment by LC
Buyer and seller agree the credit's key terms: amount, documents, latest shipment date, expiry and place of presentation.
- 2
Applicant applies to the issuing bank
In India the AD bank treats this as a credit facility, and checks that the import is permitted under FEMA before issuing.
- 3
Issuing bank issues the credit
Usually by SWIFT to a bank in the exporter's country. The credit should state it is subject to UCP 600 and how it is available: sight, deferred payment, acceptance or negotiation.
- 4
Advising bank advises it to the beneficiary
The advising bank checks the credit's apparent authenticity. If the beneficiary wants extra security, a bank in its country may add confirmation.
- 5
Beneficiary ships and assembles documents
Invoice, transport document, insurance document and anything else the credit calls for, prepared to match the credit.
- 6
Presentation to the nominated or confirming bank
Where the credit calls for an original transport document, presentation must be made no later than 21 calendar days after shipment, and never after the credit's expiry.
- 7
Examination and honour or negotiation
Each bank has a maximum of five banking days after the day of presentation to decide whether the presentation complies. If it complies, the bank honours or negotiates and forwards the documents.
- 8
Reimbursement
The issuing bank reimburses the nominated or confirming bank, directly or through a reimbursing bank under URR 725.
- 9
Applicant pays and receives documents
The importer pays or accepts the issuing bank's claim and receives the documents needed to clear the goods.
The Time Limits That Get Tested
Examination of documents
Limit
Maximum five banking days following the day of presentation
UCP 600
Art. 14(b)
Presentation after shipment
Limit
No later than 21 calendar days after shipment, within expiry
UCP 600
Art. 14(c)
Notice of refusal
Limit
By the close of the fifth banking day following the day of presentation
UCP 600
Art. 16(d)
Expiry on a bank holiday
Limit
Extended to the first following banking day
UCP 600
Art. 29(a)
| Rule | Limit | UCP 600 |
|---|---|---|
| Examination of documents | Maximum five banking days following the day of presentation | Art. 14(b) |
| Presentation after shipment | No later than 21 calendar days after shipment, within expiry | Art. 14(c) |
| Notice of refusal | By the close of the fifth banking day following the day of presentation | Art. 16(d) |
| Expiry on a bank holiday | Extended to the first following banking day | Art. 29(a) |
Party roles, sequence and day counts. No signup.
Amendments Need the Beneficiary's Agreement
An irrevocable credit cannot be amended or cancelled without the agreement of the issuing bank, the confirming bank (if any) and the beneficiary. Until the beneficiary accepts, the original terms stand. A beneficiary who presents documents that comply with the amended terms is treated as having accepted it.
How CCFE Tests This
- check_circleParty-role questions: "Which bank has no obligation to pay merely by advising?" The advising bank.
- check_circleSequence questions that swap two steps, such as reimbursement before examination.
- check_circleDay-count questions on the five banking days and 21 calendar days. The trap is mixing banking days and calendar days.
- check_circle"What does the issuing bank examine?" The documents alone, on their face. Options about inspecting goods or checking the sale contract are wrong by Articles 4 and 5.
FAQs
What is the step-by-step process of a letter of credit?expand_more
Sale contract, application to the issuing bank, issue of the credit, advice to the beneficiary, shipment, presentation of documents, examination, honour or negotiation, reimbursement, and finally payment by the applicant against release of documents.
How many days does a bank get to examine LC documents?expand_more
A maximum of five banking days following the day of presentation, under UCP 600 Article 14(b).
Within how many days must documents be presented under an LC?expand_more
If the credit calls for an original transport document, no later than 21 calendar days after shipment, and in any case no later than the expiry date.
Is the advising bank liable to pay under an LC?expand_more
No. Advising only conveys the credit and confirms its apparent authenticity. Liability arises only if the bank also confirms, or chooses to honour or negotiate as a nominated bank.
Next steps
- Types of LCarrow_forward
- LC Discrepanciesarrow_forward
- URR 725arrow_forward
- UCP 600 Key Articlesarrow_forward
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