A letter of credit is a term of payment that is mostly used for both international and long-distance commercial transactions. They seem to be indispensable for foreign transactions as they make sure the payments are received on time. Using these documentary letters of credit lets the seller considerably alleviate the risk of non-payment of the delivered goods by transferring the risk (on the buyer’s end) to that of the bank. One of the most crucial aspects of international trade is letters of credit due to separate laws in each country and the hassle of not knowing each other personally.
As trade between two countries was impossible with the help of conventional payment methods, thanks to letters of credit, that now businesses can grow worldwide. Letter of credit was a letter written by the bank of the buyer to the seller’s bank resolving to pay the seller when the buyer defaults on the payment.
Advantages of usance letter of credit for the seller
The seller gets the obligation of the bank of the buyer to pay for the shipped goods
Reduces the risk of production if the buyer changes or cancels his order
The seller can know the exact date of payment for the goods
The opportunity to receive financing during the period between shipment of goods and receiving the payment
The buyer can’t refuse to pay due to any unnecessary complaints about the goods
Advantages of usance letter of credit for the buyer
The bank will pay off the seller for the goods and services provided the latter shows the determined documents associated with the letter of credit
The buyer demonstrates his solvency through a letter of credit
The buyer controls the time period that is required for shipping of goods
For issuing a usance letter of credit for delayed payment, the seller grants credit to the buyer
Having a letter of credit lets the buyer to avert or reduce pre-payment
Usance letter of credit – How is it different?
Another name of usance letter of credit is deferred letter of credit or term LC. As the name suggests, a letter of credit is payable at a future provided the conditions in the letters of credit are fulfilled and all the documents are presented.
If you have to understand usance letters of credit, you can compare it to Sight letter of credit where the funds are instantly transferred to the supplier as soon as the documents are given. In cases where usance LC is used, you’ll find a receipt of the documents by the issuing bank and where these abide by the terms of the LC, the issuing bank receives the draft and transmits funds for payments agreeing upon a future maturity date. The buyer is offered a form of credit terms as the buying party will take the documents of the product bought and also enjoy the ability to pay at a future date.
Usance Letter of credit – Why is it used?
The same reason for which credit terms are offered, a usance letter of credit is also offered for the same reason. The purchaser is given flexibility, better flow of working capital and availability to sell stocks before payment. In this case, payment for goods is easier when done on a later date as compared to payment on receipt as there would have been an element of payment collection from the actual purchaser.
Usance Letter of credit – When can it be used?
This usance letter of credit can be used only when there is a trust factor between the selling and buying parties. It is vital to understand the future amount that is to be paid and the interest rate that has been decided on the product. The usance letter of credit will set the maturity time and the date of payment so that both the parties can utilize that as a reference. The tenor is set as being specific few days following the BL date. When you have a usance letter of credit, the purchaser deploys funds into different areas of the business till the payment is done.
Thanks to the usance letters of credit that the seller is able to trade in peace as the payment is guaranteed by promises within the banking system.
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