What is a letter of credit? This word is often used by people working in the financial sector. However, sometimes it can be heard from friends, neighbors or found on the Internet.
In this article we will tell you what is meant by a letter of credit and what it can be.
What does letter of credit mean
Letter of credit - a conditional monetary obligation accepted by the bank on behalf of the applicant (payer under the letter of credit). In simple terms, a letter of credit is one of the non-cash payment methods used when buying / selling goods or real estate.
The money provided for a specific transaction is kept in the bank in a separate account opened by the buyer and is transferred to the seller only when the parties fulfill the clauses prescribed in the agreement.
Thus, the bank acts as an intermediary guarantor in the process of settlements between the parties to the agreement. He guarantees that the parties comply with the terms of the agreement and payment of money. Letter of credit is one of the methods of payment, as well as money transfers between individuals.
There are several types of letters of credit that are relevant for a particular transaction. Therefore, before concluding an agreement, you should choose the most convenient and effective type of letter of credit.
To do this, you need to ask a specialist what a particular type of letter of credit is, or independently study this issue.
Advantages and disadvantages of a letter of credit
The advantages of this form of cashless payment include:
- security of transactions;
- control over compliance with all clauses of the agreement, where the bank acts as a guarantor;
- money is transferred to the seller only after all the clauses of the agreement have been completed;
- in case of non-fulfillment of any condition in the transaction, the money is returned back to the buyer;
- bank commissions are significantly lower in comparison with cash loans.
The disadvantages of a letter of credit include the need to pay for the service provided by the bank, the principle of transactions that are difficult for customers to understand, and a difficult document flow.
