Letter of Credit

A Letter of Credit (LC), also known as documentary credit, is a banking instrument that provides a guarantee from a creditworthy bank that an exporter will receive payment from an importer, provided that the exporter presents specific, compliant shipping and trade documentation. It mitigates non-payment risks by substituting the bank's creditworthiness for that of the buyer and ensures strict adherence to contractual shipping terms through document verification. Letters of credit deal with documents rather than goods, meaning the bank need only be concerned with whether the document fulfills the requirements stipulated in the LC. Most letters of credit are governed by the Uniform Customs and Practice for Documentary Credits (UCP600), created by the International Chamber of Commerce, with the current version UCP 600 becoming effective July 1, 2007.

A machinery exporter in Germany ships industrial equipment valued at $500,000 to a buyer in São Paulo, Brazil, using a Letter of Credit issued by Banco Bradesco as the issuing bank and Deutsche Bank as the advising bank. The LC requires presentation of a clean on-board bill of lading, commercial invoice, packing list, and certificate of origin within 21 days of shipment. A pharmaceutical company ships temperature-controlled vaccines on Qatar Airways Cargo flight QR8372 from Amsterdam (AMS) to Chicago O'Hare (ORD), with payment secured through an LC that specifies AWB 157-12345678 (Qatar Airways Cargo prefix 157) and requires a Temperature Control Certificate verifying cold chain compliance throughout transit.

• LC
• documentary credit

What specific documents are typically required in a Letter of Credit for air cargo shipments?

Standard documents include air waybill, commercial invoice, packing list, certificate of origin, and insurance certificate. Banks only release payment when all required documents match the terms and conditions specified in the LC, and small errors such as misspelled names or incorrect dates can lead to delays or non-payment. Under UCP600, banks have a maximum of five banking days to examine documents.

How does a Letter of Credit protect both buyer and seller in air cargo transactions?

For exporters, it mitigates non-payment risks by substituting a bank's creditworthiness for that of an unfamiliar buyer, while for importers it ensures that goods have been shipped according to agreed-upon terms. Under UCP600, all letters of credit are irrevocable unless stated otherwise, meaning they cannot be changed or cancelled without consent of all parties, and banks typically require collateral from the purchaser and charge a fee often calculated as a percentage of the amount covered.