QA Series No 35 - LC Part 5

 

The Banking Tutor

Question Answer Series 2025

S No 35                                                                   08-08-2025

Letters of Credit – Part 5 

106. What are sanction clauses in LC ? 

Sanctions are laws and regulations enacted by Governments (such as USA), International Organizations (such as United Nations) and Supra-national Bodies (such as European Union) to achieve political and economic results by using restrictions on trade as a tool for foreign policy/trade. 

107. What is the full form of DOCDEX Rules? 

The DOCDEX stand for ―Documentary Instruments Dispute Resolution Expertise which are administered by the ICC International Centre for ADR , a separate administrative body within the ICC. 

108. What are DOCDEX Rules ? 

DOCDEX is a dispute resolution procedure specifically designed for the world of trade finance, whereby a panel of three independent and impartial experts render a decision on a dispute arising out of a trade finance instrument, undertaking or agreement. 

109. Who frames and administer DOCDEX Rules? 

The International Chamber of Commerce ("ICC") sets out Amicable Dispute Resolution (ADR) Rules, called DOCDEX Rules. 

110. What Does URR 725 Mean? 

The URR 725 are the Uniform Rules for Bank-to-Bank Reimbursements under Documentary Credits ICC publication No. 725. 

111. What is the Scope of URR 725? 

The Uniform Rules for Bank-to-Bank Reimbursements under Documentary Credits, ICC Publication No. 725, shall apply to any bank-to-bank reimbursement under documentary credits, when the reimbursement authorization expressly indicates that it is subject to these rules. 

The rules are binding on all parties thereto, unless expressly modified or excluded by the reimbursement authorization. 

112. What is meant by Line of Credit ? 

A line of credit is a credit facility extended by a bank or other financial institution to a government, business or individual customer that enables the customer to draw on the facility when the customer needs funds. A financial institution makes available an amount of credit to a business or consumer during a specified period of time. 

113. What is the difference between Letter of Credit and Line of Credit ? 

A line of credit is a flexible borrowing arrangement where a borrower can access funds up to a pre-approved limit, paying interest only on the amount borrowed. A letter of credit, on the other hand, is a bank's guarantee to a seller that they will be paid for goods or services, contingent on the fulfillment of specific conditions. 

114. What is full form of BPO in Trade Finance? 

BPO stands for Bank Payment Obligation. 

115. What is meant by BPO? 

A BPO is an irrevocable document given from a buyer’s bank (Obligator Bank) to  a supplier or seller’s bank (Recipient Bank) , where an agreement is made to pay a specified amount of money on an agreed future date under the condition of successful electronic matching of data. 

116. What are similarities between BPO and Letter of Credit ? 

The BPO and Letter of Credit (LC) are quite similar for the following reasons: 

The end result is the same; payment is normally advanced to the seller/supplier if certain conditions are met. The bank stands as the intermediary or independent third party guaranteeing the  payment is undertaken. Under a traditional documentary letter of credit, a bank is obligated to pay subject to the physical presentation of compliant documents. 

Under a Bank Payment Obligation (BPO) a bank is similarly obligated to pay subject to the electronic presentation of compliant data. BPO offers assurance of payment, risk mitigation for all parties, and possible use as collateral for finance. 

A BPO can be seen as an alternative instrument for trade settlement. 

117. What are the differences between BPO and LC? 

A BPO can be seen as an alternative instrument for trade settlement. 

In case of LC, Bank services based on paper document processing, whereas in case of BPO, Bank services based on electronic trade data exchange. 

BPO is not only a Trade Finance Tool, but an enabler of SCF (Supply Chain Finance). 

BPO present an opportunity to provide post-shipment financing to suppliers, allowing them to access finance at earlier stages in their supply chain cycles. 

BPO is not an electronic letter of credit. 

BPO is a Bank-to-Bank transaction, whereas normally LC is a Bank-to-Seller transaction. (LC can be Bank-to-Bank transaction as well).

LC is paper intensive, whereas BPO is an electronic payment method. 

LC is slow, whereas BPO is fast. 

In case of LC, documents to be verified by Bank manually, whereas in BPO, data match completed by online means. 

Under BPO transaction, shipment documents would not be sent to Banks. 

118. What is full form of SFMS ? 

SFMS stands for Structured Financial Messaging System. 

119. What is SFMS Clause ? 

In addition to sending BG /ILC in paper form, a separate advice of the BG/ILC  shall be sent to the advising bank through SFMS by interfacing Flexcube Corporate through Middleware i.e, XMM package, after which the paper Bank Guarantee could become operative. A Clause has to be incorporated in the BG/ILC that the Bank Guarantee issued in paper form shall become operative only when the BG/ILC advice transmitted through SFMS is advised to the beneficiary by the advising bank. 

120. What is meant by Crystallisation of Export Bill ? 

Crystallization of export bills refers to the process where a foreign currency liability, such as an export bill discounted or purchased by a bank, is converted into a local currency liability (e.g., rupees) due to non-payment by the due date. It is a risk management tool for banks and helps them manage potential losses from unpaid export bills. 

121. What Rate to be applied while Crystallising Export Bill ? 

This conversion is usually done at the prevailing TT selling rate of exchange on the date of crystallization, or the original bill buying rate, whichever is higher. 

122. What is the importance of Crystallization of Export Bills? 

Crystallization helps the bank manage the risk associated with non-payment of export bills. 

123. When Crystallisation of Export Bill to be done? 

When the exporter doesn't receive the payment for the exported goods or services by the due date, the bank may initiate crystallization. 

If an export bill (discounted, purchased, or negotiated) remains unpaid after the stipulated due date, it will be crystallized. 

Export bills that are dishonoured or returned unpaid will be crystallized immediately. 

124. What is meant by Crystallisation of Import Bill ? 

Crystallization of import bills refers to the process where an unpaid foreign currency import bill, especially one under a Letter of Credit, is converted into a rupee liability for the importer. This conversion is necessary when the importer fails to make the payment on the due date. 

125. What Rate to be applied while Crystallising Import Bill ? 

The bank converts the outstanding foreign currency amount into Indian Rupees at its prevailing TT selling rate (or the Forward Exchange Contract rate if applicable). 

126. What is the importance of Crystallization of Import Bills? 

Crystallization of Import Bill ensures that the bank's exchange risk is transferred back to the importer when the foreign currency payment is not received on time. 

127. When Crystallisation of Export Bill to be done? 

Crystallization of import bills to be done 10 days from document receipt for demand bills or on the due date for usance bills. If the 10th day or due date falls on a holiday or Saturday, the crystallization is done on the next working day. 

128. Whether LC needs Stamping ? 

Original Inland LC to be affixed with Revenue Stamps of requisite value. (This practice is in vogue in some Banks only and justification is not available). 

129. Can a Bank issue LC with a  Onerous Clause ? 

Normally Banks do not issue LC with Onerous Clause. 

130. Can Bank Open when  LC when Devolved liability is outstanding? 

No further LC opened until devolved liability is cleared, without permission from appropriate authority. 

131. Can we issue LC calling for Drafts drawn on the Applicant? 

No. LC should call for Drafts drawn on the Bank (not on the Applicant) in terms of UCP 600. 

132. What is important stipulation in Sanction of Import LC? 

Sanction should stipulate Hypothecation/Pledge of goods procured under LC and suitable documents to be obtained to that effect. 

133. When can liability (contingent) can be reversed in the books of Bank in case of expired LCs? 

Liability in respect of expired LCs / balance liability in respect of partially utilised LCs may be reversed after 3 weeks from the date of expiry of the LC. 

134. Which Authority can permit issue of LC without recourse basis? 

No authority can permit negotiation of bills drawn under  LC on “without recourse” basis. 

135. When the documents contain discrepancies what is to be done? 

If there are discrepancies in the documents, they should be notified to the opener of the LC (Drawee) immediately on receipt of the documents, The Drawee should be asked to reply within 24 hours as to whether the documents are acceptable to him. The LC opening branch cannot pay the negotiating branch under reserve. If the documents are not acceptable to the opener, the negotiating bank should be informed accordingly (for getting the reimbursement from the beneficiary immediately). 

136. If the Documents found in order by Opening Bank, what is to be done? 

If the documents are in order, the opening bank should reimburse the negotiating bank within 24 hours of receipt of the bill, irrespective of whether the drawee (buyer) has paid it or not. Thus the bill should be paid by the opening bank on the day following the day of receipt of the bill thereof even if the drawee has not paid it. 

137. When the Bill is paid by Bank and not by Drawee, is the fact to be informed to Drawee of the Bill while remitting funds? 

When the Bill is reimbursed by the Bank  (not by the Drawee) the fact should be informed to negotiating bank and the drawer of the bill while remitting funds. 

138. When LC Bill negotiated is treated as exposure on LC issuing Bank ? 

Bills negotiated under LC (where the payment to the beneficiary is not made under reserve) will be treated as an exposure on the LC issuing bank and not on the borrower. In the case of negotiation of bills “under reserve” the exposure should be treated as on the borrower. 

139. What type of liability Bank carries in issuing LC? 

Liability under a Letter of Credit (LC) is generally considered a contingent liability for the issuing bank until the beneficiary presents documents conforming to the LC's terms and conditions. This means the bank's obligation to pay is dependent on the fulfilment of specific conditions outlined in the LC. 

140. What are the benefits offered by LC? 

LCs offer benefits such as ensuring payment for sellers, building trust between parties, facilitating international trade, and providing flexibility. 

Next Issue  will be shared on 10^th  August  2025.

Sekhar Pariti

+91 9440641014