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Meaning of Deferred Letter of Credit
Deferred Letter of Credit is a type of Letter of Credit in which a conditional undertaking is taken by the bank to pay the seller on behalf of the buyer on a specified future date after completion of the transaction. The bank makes the payment on presentment of necessary documents. The date of payment is generally after the shipment of goods.
Deferred Payment vs. Usance Letter of Credit
Usance Letter of Credit is nothing but another name of Deferred Payment Letter of Credit. In Usance Letter of Credit, the bank makes the payment to the beneficiary on a pre-determined date after submission of necessary documents.
Let us understand the concept of Deferred Payment Letter of Credit with the help of an example.
Example of Deferred Payment Letter of Credit
Dyna Ltd., a UK based company sold goods to Tyra Ltd., an American based company. Dyna Ltd. expressed in the agreement that they would be able to ship the goods only after one month. Agreeing to the terms, Tyra Ltd. in consultation with its bank issued a Deferred Payment Letter of Credit. As per the terms of the Letter of Credit, the bank agreed to pay Dyna Ltd. on presentation of Deferred Letter of Credit after 60 days of shipment date. Therefore, if Dyna Ltd. ships the goods from the UK on 1 July 2017, it can make its claim after 30th August 2017 from the bank with the Deferred Payment Letter of Credit after submitting the necessary documents.
Significance of Deferred Letter of Credit
Deferred Payment Letter of Credit is issued when the buyer and seller are located in different countries. The buyer wants an assurance from the seller that his products would be timely dispatched and the seller wants an assurance from the buyer that he is paid timely for the products shipped by him. Deferred Letter of Credit solves all such problems. In the first stage, the buyer’s bank issues Letter of Credit in favour of the seller’s name. In the next stage, the buyer’s bank sends the Letter of Credit to the seller’s bank to negotiate. Now the negotiating bank gives its confirmation and guarantee to the Letter of Credit upon the request of the seller.
After the negotiation, the seller ships the goods to the buyer and presents the necessary documents to the negotiating bank. After going through the documents, the negotiating bank sends them to the bank issuing the Letter of Credit.
Since it is a Deferred Payment, the payment can be delayed for a period ranging from 30 to 180 days. The exporter holding the draft shall receive payment from the bank after the stipulated period of the deferred payment is over.
Deferred Payment Letter of Credit has many benefits. Let us have a look at few of them.
Benefits of Deferred Payment Letter of Credit
- It builds trust among the buyers and sellers indulging in an international transaction
- It allows the buyer to import good at relatively lower finance cost
- The seller is assured for the payment of goods
- It promotes international trade among different countries
Deferred Payment Letter of Credit is an important tool for businesses indulging in international trade. Apart from benefits to the business, it acts as a big boost for the economy as well. It promotes export and import of goods leading to higher trade relations among different countries. Deferred Payment Letter of Credit gives assurance to both the parties to the agreement that there will be no fraud or injustice to any party.