Documentary credits and payment against documents

What the instrument actually promises

The undertaking is to pay against a conforming presentation, not to guarantee that the goods are satisfactory. Banks deal in documents; disputes about quality, quantity or lateness belong to the sale contract and are pursued separately. That separation is what makes the instrument workable across jurisdictions and also what makes it feel unjust to a seller whose goods were perfect and whose presentation was refused over an inconsistency.

Conformity and the discrepancy problem

The presented documents must agree with the terms of the credit and, in the required respects, with one another. Descriptions that do not match, a transport document carrying an adverse notation, a certificate signed by the wrong party, or a presentation made after the period allowed can all render a presentation non-conforming. Where discrepancies are found, payment depends on the applicant agreeing to waive them, which converts a bank undertaking back into a commercial negotiation with the buyer.

Reading the credit before the goods are made

The seller's protection is only as good as the terms the buyer arranged, so the credit should be checked on receipt against what the seller can actually produce. Documents that require certification by a third party, inspection by a nominated agent, or shipment from a specific port can all be impossible to satisfy once production has started. Requesting an amendment early is routine; requesting one after shipment is a negotiation from weakness.

Confirmation, and the risk it removes

A credit issued by a bank in the buyer's country still leaves the seller exposed to that bank and to the country. Adding the confirmation of a bank in the seller's own market moves the undertaking closer to home, at a cost that reflects the risk being taken. Whether that cost is worth paying is a judgement about the issuing bank and the market, and it is a question worth asking explicitly rather than defaulting either way.

How it interacts with trade terms and documents

The credit will call for particular transport documents, which in turn constrains the delivery term the parties can sensibly use. A credit requiring a document showing goods on board a vessel sits badly with a delivery term completed at an inland point, unless the mechanism allowing such a document to be issued to the seller has been agreed. Aligning the payment mechanism with the delivery term at contract stage avoids designing a transaction that cannot be performed.

Frequently asked questions

Does a credit protect a buyer against receiving poor goods?

Only indirectly, by letting the buyer specify documents such as inspection certificates that must be presented before payment. The bank checks that the certificate is there and conforms, not that the inspection was competent, so quality protection ultimately rests on the sale contract and on choosing an inspector both sides trust.

Why are so many presentations found discrepant?

Because conformity is judged against the exact terms of the credit, and documents are produced by several parties who never see the credit itself. Circulating the credit's requirements to the people preparing each document, before shipment, removes most of the recurring causes.

Is a credit the only alternative to open account trading?

No. Documentary collections, advance payment, payment guarantees and credit insurance all occupy the middle ground, with different costs and different degrees of protection. The right choice depends on the counterparty, the market and the value at stake rather than on a general preference.