Usance Letter of Credit – What you should know on it

Usance letter of credit has been given different names like Time LC, deferred letter of credit or Term LC. As you open a usance LC or a deferred LC, it means that the payment will be done after a pre-set time on a future date on confirming the documents. A usance letter of credit is just the opposite of Sight letter of credit. In case of a sight letter of credit, the payments are made to the seller only when the seller confirms the documents which are presented to the issuing bank. 

On the contrary, the payments of Usance LC are done on the receipt of documents that are issued by the issuing bank and it is also checked whether or not the documents abide by the predetermined terms and conditions that are mentioned in the original LC. The bank accepts the draft and pays on the maturity date according to the LC terms. 

Understanding usance letters of credit

A deferred letter of credit or a usance letter of credit is a typical term that is used in trade finance. But before you move on to understand usance letter of credit, you should first understand what a letter of credit is and why it is used. As long as international trade is concerned, there is enough lack of trust in such transactions and hence the mechanisms like letters of credit are utilized to reduce the risk. Letters of credit have different types like usance LC, site LCs and Standby LC. 

Letters of credit are utilised to facilitate trade between the sellers and buyers of goods all over the world. For aggravating trade, the letters of credit are kept at the right place by the seller and buyer. When the bank issues such LCs, it allows both the parties to trade in peace. Only after certain conditions are fulfilled, goods can be released and it is thereafter that the payment can be made by the purchasing bank. While taking a look at the various kinds of instruments, the factor of when a payment is done is of highest importance. 

Usance letters of credit – Know the types

Letters of credit are instruments of payment that are leveraged for improving transactions of international trade. The main purpose of letters of credit is that it mitigates the risk that is linked with international trade for the seller and the buyer. As with any other financial mechanism, letters of credit even have various secondary purposes. There are multiple types of letters of credit that serve different purposes and one such kind is usance letter of credit. 

A usance letter of credit offers deferred option for payment to the buyer and the tenure of payment is decided by the seller and the buyer. Similarly, the usance letter of credit can be categorized in 2 types based on the tenors:

 Payment within 90 days post the B/L or the Bill of Lading

Here, after the B/L is issued, the buyer is given a time of 90 days from the date of B/L to pay for the goods. 

 Payment within 30 days post sight

In this case, the date on which the issuing bank obtains the documents, from that date, the buyer will be given 30 days or a month to pay for goods. 

Usance letter of Credit – Why and when is it used

A usance letter of credit is used for the same reason for which credit terms are offered. The purchaser is allowed more flexibility, increased working capital and the option of selling stock before payment. Goods payment is easier at a later date as against paying on receipt. 

The financial instrument called usance letter of credit can be used only when there is a trust element between both the selling and buying parties. You need to have a clear understanding of the amount to be paid and the interest rate of the product. It is through the Letter of Credit that you can set out the actual payment date and time to maturity so that both the parties can take this as a reference. 

So, it can be safely concluded by saying that a usance letter of credit is used when the buyer receives an upper hand on the seller and when it is clearly a buyer’s market. This is why the seller agrees to abide by the lenient terms of a usance LC.