Letter of Credit (L/C)
A bank instrument guaranteeing payment to the seller upon presentation of shipping documents proving that goods were shipped as specified.
In detail
A Letter of Credit is issued by the buyer's bank (issuing bank) instructing the seller's bank (advising bank) to pay the seller upon presentation of specified documents proving shipment. The L/C mechanism protects both parties: the seller is guaranteed payment if compliant documents are presented; the buyer is assured payment occurs only upon confirmed shipment per contract terms. Standard documents required: Bill of Lading (on-board B/L, not Sea Waybill), commercial invoice, packing list, certificate of origin, and sometimes: inspection certificate, insurance certificate, weight certificate. Under Incoterms 2020, FCA now allows issuance of an on-board B/L — previously a difficulty with L/C use under FCA terms. L/C costs: 0.5–2% of transaction value plus banking fees. Practical usage in China trade: L/Cs are most common for transactions above $50,000 with new suppliers. SMB importers typically start with TT (telegraphic transfer/wire transfer) prepayment once supplier trust is established.
Examples
- →$300,000 machinery purchase from new Chinese supplier under Irrevocable L/C — payment released upon presentation of on-board B/L
Related terms
Bill of Lading (B/L)
The primary ocean freight document serving as a receipt of shipment, contract of carriage, and document of title.
FOB (Free on Board)
Incoterms 2020 rule: seller is responsible until goods are loaded on board the vessel at the named port; all risk and cost pass to the buyer from that moment.
Cargo Insurance (Marine Insurance)
Insurance coverage for physical loss or damage to goods during international transportation.