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A letter of credit (LC) is a document that a bank issues to a seller (exporter) on behalf of a buyer (importer), guaranteeing payment for the seller's products or services. If the products or services sold comply with the terms and conditions outlined in the LC, this agreement guarantees that the seller will be paid for the goods or services sold.
Since the Middle Ages, when merchants used them to fund their trade activity, LCs have been around and in usage. Nowadays, LCs are still a vital tool in international trade, allowing buyers and sellers to engage in business transactions with greater confidence and security.
An LC is essentially a contract between the buyer's bank (the issuing bank), the seller's bank (the advising bank), the buyer (the importer), and the seller (the exporter). A letter of credit (LC) in favor of the seller is requested by the buyer from the issuing bank. The seller is then informed that an LC has been granted in their favor by the advising bank, which received the LC from the issuing bank.
The terms and conditions of the payment are outlined in the LC, together with the payment's amount, due date, and any supporting documentation needed before the bank may process the payment. Usually, these records consist of a bill of lading, an invoice, and other shipping records.
The advising bank analyzes the paperwork to make sure they comply with the terms and conditions of the LC once the seller has shipped the items and given it the necessary documentation. The advising bank sends the appropriate paperwork to the issuing bank, which subsequently releases the funds to the seller if everything is in order.
Both buyers and sellers in international trade can benefit from LCs in a number of ways. An LC gives buyers the assurance that they will get the goods they paid for and that they will be of the promised quality. If the terms and conditions of the LC are met, an LC gives the seller the confidence that they will be paid for their goods.
