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Letters of CreditNegotiable Instruments LawOutlineConceptGoverning LawsParties to a Letter of CreditStages in a Letter of CreditRights and Obligations of the PartiesBasic PrinciplesKinds of Letters of CreditCases2ConceptDefinition: A Letter of Credit (LC) is an engagement by a bank or other person made at the request of a customer (applicant) that the issuer will honor drafts or other demands for payment upon compliance with the conditions specified in the credit

Nature and PurposeNature:Commercial documentSui generis

Purpose: To reduce the risk of non-payment or non-performance of obligation Essential Conditions of Letter of CreditIssued in favor of a definite person and not to order. NOTE: UCP allows letters of credit to be payable to order

Limited to a fixed or specified amount, or to one or more amounts, but with a maximum stated limit. NOTE: If any of these essential conditions is not present, the instrument is merely considered as a letter of recommendation.

Governing LawsUniform Customs and Practice for Documentary Credits (UCP), which was adopted by the International Chamber of Commerce. Latest revision: UCP 600 which took effect on July 1, 2007Parties to a Letter of CreditApplicant/Buyer/Importer One who procures the LC, purchases the goods, and obliges himself to reimburse the issuing bank upon the latters compliance with the terms of the letterParties to a Letter of CreditIssuing Bank one who issues the LC obligating himself to pay the seller or accept any draft or bill that is drawn by the seller upon receipt of the tender documents stipulated in the letterParties to a Letter of CreditBeneficiary/Seller/Exporter one in whose favor the LC is executed. The beneficiary is the one who delivers the documents of title and draft to the bank to recover paymentParties to a Letter of CreditNotifying/Advising Bank correspondent bank (agent) of the issuing bank through which it advises the beneficiary of the letter of credit

Parties to a Letter of CreditConfirming Bank The confirming bank not only notifies the beneficiary but it also assumes the direct obligation to the seller

Parties to a Letter of CreditPaying Bank -- The bank on which the drafts are to be drawn, which may be the issuing bank or another bank not in the city of the beneficiary

Parties to a Letter of CreditNegotiating Bank A correspondent bank which buys or discounts a draft under the letter of credit, if such draft is to be drawn on the opening bank not in the city of the beneficiary

Stages in a Letter of CreditContract of sale between buyer and sellerApplication for LC by the buyer with the issuing bankIssuance of LC by the bankShipping of goods by the sellerExecution of draft and tender of documents by the sellerRedemption of draft (payment) and obtaining of documents by the issuing bankReimbursement to the bank and obtaining of documents by the buyer

Contracts Involved in a Letter of Credit15 Roles and Liabilities of PartiesROLELIABILITYApplicant (Buyer)Applies for LCReimburses the Issuing Bank when the bank complies with the terms of the LCSolidary liability with the Issuing BankIssuing BankIssues the LC obligating itself to pay the sellerSolidary liability with the applicant (Exception: contrary stipulation)Notifying BankServes as an agent of the Issuing Bank Warrants the apparent (on its face) authenticity of the LC No obligation other than to notify beneficiary of LCNot liable for damages unless LC is fakeRoles and Liabilities of Parties ROLELIABLITYConfirming BankLends credence to the LC issued by the lesser-known bankDirect (primary) obligation, as if it is the one who issued the LCNegotiating BankBuys the sellers draft and later on sells the draft to the issuing bankDepends on the stage of negotiation:Paying BankMay either be the issuing bank or any other bank in the place of the beneficiaryDirect obligation Basic PrinciplesIndependence Principle -- The relationship of the buyer and the bank is separate and distinct from the relationship of the buyer and seller in the main contract; the bank is not required to investigate if the contract underlying the LC has been fulfilled or not because in transactions involving LC, banks deal only with documents and not goods. In effect, the buyer has no course of action against the issuing bank.

Basic PrinciplesFraud Exception Principle -- It provides that the untruthfulness of a certificate accompanying a demand for payment under a standby letter of credit may qualify as fraud sufficient to support an injunction against payment Basic PrinciplesDoctrine of Strict Compliance -- The documents tendered by the seller/beneficiary must strictly conform to the terms of the letter of credit. The tender of documents must include all documents required by the letter. Thus, a correspondent bank which departs from what has been stipulated under the LC acts on its own risk and may not thereafter be able to recover from the buyer or the issuing bank, as the case may be, the money thus paid to the beneficiary. Kinds of Letters of CreditCommercial Letter of CreditStandby Letter of CreditInvolves contracts of saleInvolves contracts of non-salePayable upon presentation by the seller-beneficiary of the documents that show the he has performed his contract Payable upon certification by the beneficiary of the applicants non-performance of the agreementKinds of Letters of CreditConfirmed LC The correspondent bank gives an absolute assurance to the beneficiary that it will undertake the issuing banks obligation as its own according to the terms and condition of the credit.Pertains to the kind of obligation assumed by the correspondent bank

Kinds of Letters of CreditIrrevocable LC - The issuing bank, may not, without the consent of the beneficiary and applicant, revoke the undertaking under the LCRefers to the duration of the LCCasesBPI v. CIR (2006)A letter of credit is one whereby one person requests some other person to advance money or give credit to a third person, and promises that he will repay the same to the person making the advancement, or accept the bills drawn upon himself for the like amount.

CasesTransfield Phil Inc v. Luzon Hydro Corp 2004)\Fraud is an exception to the independence principle. The fraud exception rule refers to the untruthfulness of a certificate accompanying a demand for payment under a standby credit may qualify as fraud sufficient to support an injunction against payment.

CasesThe remedy for fraudulent abuse is an injunction. However, injunction should not be granted unless: there is clear proof of fraud; the fraud constitutes fraudulent abuse of the independent purpose of the letter of credit and not only fraud under the main agreement; and irreparable injury might follow if injunction is not granted or the recovery of damages would be seriously damaged.

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