Return to Index Return

MUSSON INTERNATIONAL Freight Fwdrs - LA, LLC. Tel: 818-366-3542, Fax: 818-366-3582

Letters of Credit (L/Cr)

This is an overview of what a letter of credit is, how it works, why it's used, the good the bad and the unpleasant facts about them. Like almost all professions, you can probably do it yourself (like smashing your teeth out with a hammer, rather than allowing a dentist to do the job), but it's generally better paying for the conversation, expertise, air tools, and novacaine. So if you're looking here for a do-it-yourself manual, good luck with that, this is for those who are shocked to learn it costs time and money to get the money out of a letter of credit, and not to take the job away from us doing it. We've had rather a lot of experience over the years, so do feel free to contact us about yours.



Put into simple terms, a letter of credit is a method of guaranteeing that the shipper gets paid, and the purchaser gets a shipment - or at least, this is what the intent is all about. The reality is not always quite so well defined when unscrupulous people are involved. The letter of credit is only a good method of providing payment for freight - it is not a solid guarantee of receiving full payment, or that what was ordered is what gets shipped! The shipper who wants to get money, but is bent on offering nothing for it can (and has) easily faked shipment of nothing and been paid substantially. Equally, the consignee who wants something (but has no intention to pay for it) asks for a letter of credit, not an "irrevocable confirmed" letter of credit, then (and this is the tricky part) they demand an original bill of lading is couriered to them, or the country being exported to doesn't require original bills of lading to release freight, and with that, they pick up your freight. Now to avoid paying you, they word the letter of credit such that is impossible to comply with (in it's vast, intricate, and wildly conflicting complexity), and you submit non-conforming documents to the bank, who send it on approval, and the consignee refuses to approve - voila you just sent your freight 'on consignment' (good luck getting the money). So no, they are not foolproof.

It is regularly the
shipper/beneficiary who accepts all bank charges, and costs for conforming the required paperwork to the demands of a letter of credit. Before entering into a Letter of Credit, the shipper should make themselves aware of the full amount of money their bank can, and may charge, and add these costs to the purchase price in order to cover themselves against that possible loss.

Making plenty of original commercial invoices, packing lists, certificates covering everything, correspondence, couriers and original bills of lading a requirement of the letter, these documents are only that - paper. Board of Trade Certification, Notarization, and even Embassy Legalizations are only signatures and stamps testifying that the documentation looks authentic enough to belong with some amount of probably acceptable freight that might have been shipped (perhaps).

The forwarder, the Board of Trade, the Embassy, and the Bank review only the paperwork, not the commodity that the documents refer to. None of these companies open a crate, examine the contents of a container, see that a commodity is according to order, that it works, that it is the right color, texture, shape, that it smells nice, or tastes right, that batteries are included, or that every component was undeniably made in only the United States of America. These companies, and certifying agencies are not expected to do this, nor will they - each are interested only in the paperwork (that the documentation properly conforms to the letter of credit). And where does the paperwork originate? From the shipper of course, because only they know what they sold, where it came from, how it was made, how it was packaged, how heavy it was, and if it was all loaded, or if any of it was loaded at all. In each case, the companies trust that the shipper actually sent what they say they sent. Musson requires the shipper's own commercial invoice (whether it conforms to the letter or not), as file proof that we are moving an agreed something to the place we expect to move it to.

The bank's concern is that every piece of documentation is provided in the time required, that it matches in every minute detail precisely what the letter of credit demands, and that, if they want additional changes made to the paperwork, this/these changes is/are done and delivered back within the prescribed time limit exactly perfectly as they want them. That done, the bank pays the shipper within a time they set. So the shipper gets paid, regardless of what arrives at destination, in whatever condition it is in, however early or late it is, on whatever conveyance, flying whatever flag it arrived on - regardless of whatever the paperwork shows.

With the demands by the bank placed on the shipper/forwarder to prepare letter perfect documentation there are extremely few forwarders who will accept losing revenue for having to make minutiae changes, thus the cost of arranging for them is passed on to the shipper additionally. The old argument "...a forwarder who makes an error has to fix it at their cost..." is not acceptable where letters of credit are concerned for all these reasons.


Banks do a very high parity check

As a result of slow and non-payment by overseas banks who refused to part with funds simply because very minor flaws were found in the documentation presented, the local banks instituted a very high parity check for all letter of credit documents. Mundane documents that are noted in the letter of credit such as faxes sent from shipper to consignee, fax transmittal receipts, courier slips, and attachments, all these documents (not just the real important commercial invoices, certificates of origin, original bills of lading, and insurance certificates) are checked against the letter for minute flaws.

Any error in presentation, spelling, punctuation, stamps, signatures - anything at all that the bank can find, is a discrepancy. When you multiply this over the number of original documents, and copies that are asked for, you start to see just how intricate a letter of credit is, and how superficial it can be.

Consider now that the banks have employees who work only one country, know it upside down (all the minutiae nit-picking details that do not appear on the letter of credit). For some destinations, this check goes well beyond the interpretation of the letter of credit itself, into a more detailed knowledge of that destination banks' own specific whims (through trial and error). The documentation may be perfect against the letter, but if the bank wants an adjustment to it in some way, for whatever reason, this must be complied with to avoid it going on "Approval".

It is because the banks check everything so meticulously that the forwarder has to point by point, line by line review, not only the documents they create, but that paperwork which they cannot do themselves. Some of this documentation includes (but is not restricted to):

As these documents can be provided solely by this other company (The Steamship line, the Airline, the Manufacturer, Cotecna, Lloyds, etc.) of which the forwarder has absolutely no control, the forwarder can only provide instructions for this other company to follow. When the instructions are not followed to the letter, there is usually a discrepancy. It is up to the forwarder to correct the proof copies faxed them by these other companies before originals are issued. The period of time taken to check other company's documentation for errors often takes numerous days, and is unavoidable.

Where the forwarder is left entirely to provide all documents on behalf of the shipper (with the exception of the above paperwork) the knowledgeable ones can often have a conforming set in the bank with far greater rapidity than most shippers. The most important point here is a
conforming set - it may take hours, days, or (in extreme cases) even weeks to put together a conforming set before presentation to the bank.


Advising your forwarder about a Letter of Credit

It is imperative that the forwarder is made aware in writing that there is a letter of credit involved,
before they quote on the shipment, and to supply them with a copy as soon as it becomes available. Horrible costs to yourselves will be the result of procrastinating too long before advising the forwarder, simply because the longer you wait, the further along the shipment goes.

e.g. Your accounting department gets a letter of credit, but they do not advise you, so you do not let the forwarder know. You want the shipment to move soonest, and you want the cheapest price for it. The forwarder gets the lowest price available to give you the best quote, but there is no other line that would accept the freight for that cost. You accept the quote, and a container gets dropped into your yard. You load it, and it gets sealed, and delivered back to the rail yard who load it onto a train and send it five hundred miles away to the dock side. Suddenly, your accounting department lets you in on the secret that there is a letter of credit involved, and it expressly forbids transit on the line the freight is going on. You either have to get an amendment at a cost payable to the bank (which there is every likelihood will not be acceptable), or you have to accept the costs that you will definitely incur in getting the forwarder to stop the container, source the market again for a conforming line, get it released from the terminal, move it to a facility that will unload it from the first line's container, then load block, and brace it into the other line's container, and to send it on to the terminal that the other line sails from (wherever that might be - another thousand miles away?). Think what would happen if it was loaded onto the vessel, and had already sailed! As you can see, the longer you wait before advising the forwarder, the more costly to yourselves and time consuming it becomes to fix the problem.

The forwarders job is to make the transport of your freight run smoothly; however, faced with something like the above example, the only thing the forwarder can do is to advise you of the problem faced, have you send them written confirmation that you will accept the charges to rectify the situation (whatever those charges turn out to be - a sort of blank cheque if you will), and to try and fix it in as fast a time as possible - sometimes weeks (if it can be fixed at all). Only you and your accounting department are to blame for failing to provide the forwarder the tools required to quote and handle the shipment properly from the outset.

All that said, you must make it clearly known to the forwarder what paperwork you wish them to prepare - the full set, or only the bill of lading, certificate of origin, and the insurance certificate, or perhaps all the documentation, but not to certify or legalize any of it - you get the picture. When you select those documentation requirements you want the forwarder to provide, you must be aware of your responsibility to provide swift payment to your company against documents you provide to the bank. While being slightly cheaper doing your own paperwork, your time is used, and you answer to your boss when you provide non conforming documents.

Most forwarders need a paper trail so when a verbal decision is made, you should follow it up in writing. This seems a very trivial point, but when it comes to pointing fingers, it is invaluable to have written proof, and confirmed receipts. This is the primary reason why a forwarder will procrastinate doing something verbally agreed upon if it is not swiftly followed up with a fax/email from yourself confirming it.

Since only you know the special points of interest about your shipment (its time sensitive delivery - the possible fines you may incur if not delivered on time, the Letter of Credit documentation you need prepared, the Sight Draft you have to have presented, and/or the hazardous nature of your shipment, etc.), these must be advised, in writing, to your forwarder - you cannot expect them to guess. Let them know, and you will get a much more complete quote, and service.


UCP 500 / UCP 600

UCP 500 and the new UCP 600 (Uniform Customs and Practice for Documentary Credits) are sets of legal terms which the banks adopted covering specific terms, and their meanings - we suggest you contact your local bank for a free copy (UCP 600 should be available from your bank in the spring of 2007). These legal terms advise clearly what the liabilities are of the parties to the letter of credit, some of the specific wording that is to be included on certain documents, what paperwork is required under what circumstances, and a list of other points which clarified otherwise ambiguous terms before UCP was adopted. While UCP500 required that every single piece of documentation named (or even hinted at) was absolutely perfect for the whole set to conform, UCP600 seems to allow some less than perfect documents, but on the other hand, some perfect documents are still required (so knowing the differences is critical). The terms do also limit the banks liability - confirm with your bank what UCP 500 and/or 600 means to you, to them, and to your letter of credit paperwork.

The forwarders' responsibility

The forwarder is supposed to advise the shipper what problems there may be with a banking instrument, and offer suggestions. Should the forwarder fail to do this, it is often shown that their inaction caused costs to be incurred. At Musson, once we know we are handling a letter of credit shipment, we soon thereafter advise the shipper in writing as many problems as are apparent, and should further points be found later, these are also advised as they become known - the reason for the delay in most instances is that while a problem did not present itself earlier, during documentation preparation, they may sometimes become so.  The following is just one such kind of issue that unavoidably happens sometimes:

e.g. A line that previously accepted port of origin "Burbank" on their bills of lading because they accepted the container in Burbank, and moved it from there, only recently decides to accept only "Los Angeles" as a port of origin because that is where the vessel actually sails from. It is not the forwarder's business to know every nuance of all carriers' always changing practices, so try as a forwarder might, the line will not change the documents, the letter must be amended, since the paperwork will otherwise be discrepant, and neither the forwarder nor the steamship line is to blame for this.


"Approval" does not mean the bank is pleased!

Sending documentation "on approval" is
NOT GOOD!. It does not mean that the bank has  given their seal of approval to your substandard documentation, it means (rather) that they  want your name as identification to confirm that you authorized the unacceptable  documentation to be couriered to the receiving bank for their decision whether your company  should get paid swiftly or not. Never agree to send your set "on approval" unless it has become  absolutely necessary - since there is every likelihood that the receiving bank may want you to  supply them with acceptable documentation before they pay your company.


Dinosaur terms

Numerous points are included in letters which are a throw back to decades past, and have not been updated in some letter of credit application forms. A few of these points include:


There are no guarantees

It's amazing how many truly intellectual people are under the impression that the same forces that they deal with in their daily lives are somehow void from transportation. Timed delivery means there are no traffic accidents to slow the lightening speed of their cargo, no train derailments, no hurricanes, no flat tires. The unscrupulous Freight Forwarders guarantee you it will definitely be there on time, and when it isn't, they point you to their fine printed terms and politely read to you from them "unless it isn't".

With the same guarantee as that, stories of unscrupulous shippers have taught the wary consignee to check first. Shippers have created paperwork that passes bank inspection, they get their money, but they don't actually send the freight (it's an empty container, or one filled with bricks), and they're gone. Such companies are so much easier to create now with the internet - they look impressive, but there's nothing sustentative but the good looking web site, and the monogrammed paper. No, the forwarder is not required to check the shipper, and they do not. Obviously, the consignee that can fly to the shipper's premises and watch the product in action, then see it loaded is in the best position to know what he wants did indeed get moving. But alternatively, to avoid this kind of dishonesty, a number of letters include a line indicating that the freight must be checked by an independent authority which is certified to know that the goods shipped are what was ordered. These companies include (but are not limited to) SGS, Lloyds, Bureau Veritas, and Cotecna to name a few.

Even so, these independent safeguards do not guarantee that the freight will be received at the destination in good order, so it is always an extremely good idea to have all cargoes insured. The fact that you have faxed sailing details, a couriered copy of them, and a full set of original through bills of lading does not mean that the freight might not actually transship some place (not shown on the bills of lading) it does not mean that the freight will definitely arrive, or that it will be there on time, or that it will smell as sweet,  or taste nice, or that it will not have broken and leaked all over the place, or that the container it was in was not stolen, smashed, and sunk in a river. A forwarder would not necessarily be aware of a difficulty that may befall your shipments progress until the freight doesn't arrive where it should have (generally the consignee's door), so it is always a very good idea for the SHIPPER to inform their customer of the intended sailing details, for either the shipper or consignee to take out insurance on the cargo, and to inform the forwarder immediately the freight does not arrive, or is damaged when it does arrive, so that an insurance marine surveyor can investigate and report on it within the time limits that insurance companies impose on such things. Only if the shipper or consignee pays for insurance will insurance be on the shipment, without which, you can expect little more than sympathy - bitching about it afterwards will not change that.

Why not consider some other method of payment

Discounting a letter of credit

Lets now consider that the consignee wants to pay you ninety days after it reaches him, but you want to be paid immediately after the documents are accepted. The banks will offer to pay you on a discount basis, meaning that they deduct a percentage from the value owing you, which they keep as the cost of discounting; you get paid immediately the value less that discount. The amount usually ranges from 6 to 15 percent of the value.

GOOGLE I hope this brief overview has proved beneficial to you, and you recognize the support that a knowledgeable forwarder will provide. For a full package the internet provides a few computer courses - try searching "letters of credit" on the internet if you want to learn more. I include this search engine for you:

Return to Index Return