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How Does A Letter of Credit Work?

You ought to have some genuine interest to know the functions and various related aspects of the bank credit letter if you are involved in trading business. When you want to expand the business beyond the UAE borders to other countries, especially in Europe, you should possess a detailed letter of credit. Letter of credit financing helps you grow your business and establish long-term relations with the trade partners.

What Is A Letter of Credit?

The meaning of a bank credit letter is simple. It is a financial instrument or a document issued by a legal banking authority or a financial institute that provides a full-proof guarantee of payment for a product or service. In trading commodities and services within the country and also globally, the letter of credit, or LC in short, gives the involved parties a security net.

Letter of Credit Work

Seller Protection Premises

In order to know how a letter of credit works, you need to know a few important premises. The seller protection perspective is one of them. Suppose you intend to sell some goods to a buyer. What will happen if the buyer fails to pay you the full amount? Where will you when the buyer suddenly becomes broke? In such a case, the letter will provide you the necessary security to receive the payment from the bank. Even if the buyer is from a far-off country, you will get your payment as long as you comply by the details mentioned in the trade document and the credit letter.

The Aspect of Buyer Protection

Now, think from the other side. Suppose you are a buyer and have paid an outstation service provider for the services that you have ordered. What will happen when the seller fails to deliver the products or the services? You don’t have to worry as you will receive the requisite refund amount from the bank. It acts as compensation to you on behalf of the seller.

Financial Rationality

The Money Associated with A Credit Letter

Remember an important point that a bank will issue the credit financing letter only when it is sure of the credibility of the buyer. It means that if the bank thinks the buyer as one of the major trading stakeholders is capable of the goods and services for which it has placed an order, it will take the initiative to issue the letter.

It is your duty and financial rationality to rely on an entity that has complete expertise of issues relating to letters of credit, such as a company like Credico Capital.