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THE LEGAL NATURE OF INTERNMATIONAL DOCUMENTARY LETTER OF CREDIT

THE LEGAL NATURE OF INTERNMATIONAL DOCUMENTARY LETTER OF CREDIT
Giorgi Amilakhvari, докторант, докторант

Грузино-Американский университет, Грузия

Участник первенства: Национальное первенство по научной аналитике - "Грузия";

This article has analyzed payments by letter of credit widely used in international trade, when the buyer of goods (importer) writes an order to his bank to transfer funds to the seller (exporter) specified by letter of credit and in compliance with the terms of the letter. The further development of international trade, created a basis for the evolvement of financial and trade letters of credit and shaped them into a secure financial tool of a documentary letter of credit. The term “documentary” has settled in practice as a part of the whole letter of credit process.

Keywords: financial intermediaries, letter of credit, financial guarantees, international trade and security backed guarantees.

n modern times of globalization and world integration phase, it is impossible for an economy to be developed without highly rated financial system and in particular intermediaries. Experts kindly note that the productivity of financial intermediaries directly correlate with macro-economic indicators and social level and quality of life of the population. In this regard, it is important to mention that the commercial banks are regulated by domestic as well as by bilateral and multilateral agreements.

One of the important agreements about banking regulation is set by The United Nations Commission on International Trade Law (UNCITRAL) and International Chamber of Commerce (ICC), that is, convention on independent guarantees and standby letters of credit. There are recommendations for banking regulations as well, concerning activities such as bank transfers, international financial transactions, bank guarantees, documentary letter of credit, documentary list of rules, simplification of credit issuance to developing countries, electronic fund transfers, etc.

In international trade, parties, as a general rule, do not know each other and operate from different locations, increasing the credit default risk among various traders. In this regard, both profiles, those concentrated on imports and those on exports, may fail to deliver goods and services on time. They can also breech the promise and after receiving certain amount of guarantee, avoid making a transaction at all and/or they can deliver low quality products without conforming technical regulations by internationally recognized standardization organizations.  Thus, it means that accrual basis, which is based on trust and ethics may not work at all. In order to avoid disappointments, there are specific forms of payments such as international documentary letter of credit, which in its essence is an productive tool for the above-mentioned risk insurance. Precisely for this reason, International Documentary Letter of Credit is considered as one of the safest forms of payment globally.

For security reasons, International Chamber of Commerce (ICC) has adopted“Uniform Customs and Practice for Documentary Creditsin 2006 and common rules on bankingguarantees have been established: "Uniform Rules for Demand Guarantees", “Uniform Rules for Collections". It is also important to mention Geneva convention on checks, transferable and ordinary bills concerning legal assistance, which can be used for gaining banking information, as well as for checking the existence of financial sanctions on bank account, etc.In first article of uniformrules,itis established that the termsfully determine the responsibilities of the parties and are used for any documentary credit settlements.This requirements are mandatory for all parties involved, documentary Letter of Credit is an obligation of the provider bank, which is theone used by theseller of the goods,  to the buyer (payer) bank to carry out its responsibilities according to  the way bill documents, and to provide payment of the value of the commodity according to the documentary letter of credit.

Since 1990s, Georgian financial system, including financial intermediaries, has been stable and developing gradually. It has beenadaptinglegal norms with full compliance tothe principles of international economic and trade law, adopted many normative regulations concerning not only usual banking activities, but also including commercial banks,which include: Georgia’s main Constitution’s 3rd, 95th and 96th articles, giving definition ofthe main aspects of the banking systemin Georgia. Articles 859-890 of the Civil Code deal with baking service, payments, bank loans, deposits, documentary (commodity) the letter of credit, documentary collections, bank guarantees and other major issues.Apart from international laws and domestic laws banking activities in Georgia are also regulated by many normative actsandcommercial banks are supervised by more than 270 normative acts, which include all approproatechanges and  amendments.

At present, the current trend of intensification in foreign trade has laid the foundation for an international expansion of financial transactions, without which nowadays it would be impossible to establish any kind of foreign - economic relations. It should be noted that international financial operations, unlike internal financial operations, deal with exchange of domestic currency to  international currencies and other complex processes. The form of International settlement transactions depends on such specific factors, as interdependence between buyer and seller, their international image and solvency, the value of the transaction for both parties (market situation, risk factors in both party countries) and the sort of product (cigarettes, oil products, food products, for example, flour, pasta, etc.), settlement, payments restrictions, customs tariffs and non-tariff restrictions and other factors. In order to reduce the risk of  large-scale economic transactions the most commonly used tool is documentary letter of credit, which is a solvent bank's commitment to adhere to the terms, stated in the contract between trading partners, which determines the terms of the supply of goods , payment and other important conditions.

The name "letter of credit" derives from the French word "accréditation", a power to do something, which derives from the Latin "accreditivus", meaning trust. Certain group of lawyers believe that international trade transactions in form of a letter of credit payments were established a few hundred years ago. It is known that bank payments via letter of credit were used in the Roman Empire, ancient Greece, the Philippines and ancient Egypt. G. Mansurov points out:  "the letter of credit as a form of payment has been used for more than three thousand years, because it is the most simple, affordable and guaranteed method of bank payment.”

Payment settlement in the form of the letter of credit existed in the UK banking system since ancient times and has been  part of the trade law since 1200, which since 1700 has been attributed to the common law of England. The letter of credit in the US also belongs to the common law since ancient times. United States Court of Appeals - in one of its decisions indicated that the letter of credit is an ancient institutional function and despite its age it is still used today because of its reliability, availability and efficiency. It was especially prevalent in the US - in form of a reserve letter of credit - in case of debtor’s failure to meet his obligations. Today in the US domestic and international trade activities that take form of a letter of credit are regulated by Unified Commercial Code. It is stated in the code that the provider of the letter of credit - eminent bank is obliged to fulfill the terms written in the letter and to settle payments with the seller of the goods in a timely manner.

Nowadays, payments by letter of credit are widely used in international trade, when the buyer of goods (importer) writes an order to his bank to transfer funds to the seller (exporter) specified by letter of credit and in compliance with the terms of the letter. During the operation Commodity Credit Bank tasks its correspondent bank, to pay the seller the amount specified by the agreement from the importers (buyers) account, after the seller has provided shipping documents. The further development of international trade, created a basis for the evolvement of financial and trade letters of credit and shaped them into a secure financial tool of a documentary letter of credit. The term “documentary” has settled in practice as a part of the whole letter of credit process.

According to international legal norms and national legislation, as well as international trading practice rules and customs, there are following types of documentary letters of credit:

  • 1. Revocable - in practice revocable letters of credit are also known as withdrawal letters of credit, as such type of letter gives the seller permission to cancel and refund order without informing the buyer, or to make changes to it after goods have been dispatched to the buyer which is most likely unacceptable for the importer. Revocable letter of credit is beneficial to an importer in a situation when large quantities of goods were purchased and it is a subject of letter of credit and the goods are received in batches. In case the terms of the agreement have been violated the importer can cancel the letter of credit for further batches and hence such type of letter of credit is rarely used in practice;
  • 2. Irrevocable (non withdrawable) Letter of Credit - this kind of letter of credit prohibits termination, initiated by a single party, in order to cancel transaction both exporter’s and importer’s agreement is required. At the same it is necessary to specify in the letter of credit (in the agreement) that it is an irrevocable type of letter and hence its termination is not permitted. Irrevocable letter of credit are of two types:a. Unconfirmed by exporter’s bank and so according to the rules set it operates only on behalf of the importer’s servicing bank; b. Confirmed by both exporters and importers and other third-party bank. This kind of letter of credit set by the exporter and the importer makes sure that both parties meet their obligations.
  • 3. Covered and uncovered letters of credit - if covered letter of credit is used then the issuing bank is required to transfer the entire amount of payment to the exporter's bank to the buyer's account, or grant the relevant loan to guarantee that the recipient will be paid in full the agreed value of the goods. If uncovered letter of credit is used the issuing bank does not transfer the amount of payment specified in the contract to the performer’s bank, at the same time performer’s bank can write down the amount specified in the contract from the issuing bank’s account at the agreed time limit. Hence there should be a corresponding relation between issuing bank and other party’s bank. In international trading practice uncovered and revocable types of letters are used rarely. Hence covered and irrevocable types of letters are used most widely as they guarantee the seller of goods smooth and timely reception of the amount specified in the contract;
  • 4. Revolving Letter of Credit - this type of  letter of credit is often used in a situation when both parties have long term trade relations. Revolving letter of credit sets a specific limit that the bank has to pay to exporter party based on sent batches based on months, quartiles or other agreed periods. For this letter of credit once money has been paid out for the sent goods the payment is automatically made for the next batch of good and it continues until fund limits are reached. One type o revolving letter of credit is cumulative letter of credit and it is used in a situation when the importer hasn’t received part of the goods and the payments transaction happens when the delayed goods are finally received.
  • 5. Divisible and indivisible letters of credit - In case of divisible type of letter of credit the payments to the seller are made separately, every time another batch is received. In case of indivisible type of letter of credit the whole payment is made when all of the goods are received or when the last batch is received.
  • 6. Transferable letter of credit - this type of  letter of credit allows the exporter (Beneficiary) to authorize other subcontractors to get the payment if they provide documents proving manufacturing of the goods.  For example in machine building industry manufacture process usually takes place in different locations and involves companies from several countries, so the seller exporter uses transferable letter of credit so that other parties can easily get their share of payment;
  • 7. Freely transferable letter of credit - in this case, the importer's issuing produces a payment obligation, which in practice is called commercial letter of credit which is transferred to the exporter (beneficiary). This document is send to the servicing bank of the importer which is responsible for making the actual payments to the importer;
  • 8. Reserve (Standby) Letter of Credit - this type of letter of credit is most widely used.  In fact, it is used with all letters of credit. In such case, the importer's issuing bank is obliged to make a payment to the seller exporter regardless of whether the importer met contract terms. Also the recipient importer has to submit documents confirming that the exporter party hasn't met some of its obligations (usually consisting of a letter, confirming documents and etc. ). In such situation the exporter is guaranteed to get the payment for the sold goods, regardless of whether the importer has paid for the goods or not.
  • 9. Red clause letters - in trading relations the Red clause Letter (Red Amendment) is used when according to an agreement parties decide to make an advance payment. Hence this kind of tool is often called an advance letter of credit. The title red clause letter originates from the old times when in order to get an advance payment the letter had to be written with red ink. The seller can claim advanced credit specified in the agreement in order to purchase raw materials, to finance subcontractors or for other types of financial operations. The letter is issued with written commitment that shipping documents will be submitted at a specific date. The advance payment is made by the servicing bank to the importer from the issuing bank's account. In case the exporter has violated the terms of agreement after he has taken out advance payment, for example, the exporter failed to provide shipping documents during the specified period, the servicing bank will receive the amount equal to the advance payment plus service fees from the importer's issuing bank. These funds are paid by the importer (beneficiary) to the issuing bank.
  • 10. Financial securities-in global practice promissory notes and other financial securities are used for making payments by letters of credit. Using financial securities for  letters of credit is also a subject of national laws and international legal norms. In 1930, Geneva Convention was adopted which created uniform rules for using financial securities, also in 1988, on December 9,General Assembly of the United Nations has approved  UNCITRAL convention which covered the issues of ordinary and transferable financial securities.Payments of documentary letter of credit using securities  are governed by the laws of different countries. In the US such types of transactions are regulated by the Uniform Commercial Code since 1962. In 1882 England passed on  a law about payments through transferable securities . In Georgia, on 19 April 1995 passed on a law according to which a promissory note is a security and that the issuer of this security is obliged to pay the amount stated on that security or obliges another another person to make the payment.

In international trade when using such type of payments, securities are used instead of actual currency. By presenting this security in the servicing bank the seller gets the amount specified in the contract. Payment is carried out by the bank's immediately after document examination.Either for international trade transactions or for one-off operations,the use of letters of credit are not regulated by legal norms and are widely dependent on established practices. This is also defined in the Article 878 of Civil Code of Georgia according to which – unless stated otherwise, party’s rights and obligations are be determined by the international practices of making payments by letter of credit. The above mentioned creates a considerable „vacuum” in legal regulationssince all  related practices of the use of letters of credit do not constitute a legal basis, and are mere recommendations.

According to Georgia’s Civil Code’s 876 article payments by letters of credit are defined only as a general concept. Also, according to National Bank’s president’s  decree #220 that was approved on September 2, 1999,payments by letter of credit are regulated by rules on cashless payments in Georgia. This decree was repealed by National Bank’s decree #83/01 on June 2, 2010. Also another temporary regulations concerning open various types of banking accounts wereabolished by the National Bank on March 17, 2004.Moreover, In 2008 on July 16 according to the #182 decree of the President of National Bank,  the process of using letter of credit has been ratified in the Ministry of Finance, which is currently used to regulate documentary letters of credit procedures for international trade transactions, as well as for transactions withing the country.Apart from the above mentioned types of documentary letters of credit, also other types of letters are used in international trade transactions such as  transport letter of credit, revolving letter of credit,  deferred payment letter of credit,sight letter of credit, however, their use in practice is rare.

In international trade transactions, as well as in domestic purchase and sale transactions, payment by letter of credit is generally seen in positive light. Payment by letter of credit permits the bank to give out loans, which allows both the buyer and the seller to carry on their production and business activities. At the same time the seller of the goods is guaranteed to be fully paid for the goods at agreed time, irrespective of whether the buyer went bankrupt, or if he has encountered financial difficulties and became insolvent.

The use of documentary letter of credit compared to other banking operations, has a number of advantages listed above and so is widely used in practice globally. Many countries have specific laws according to which some specific purchase and sale transactions can be carried out only by using documentary letters of credit. Such special legal acts are adopted in the United States, France, Italy, Germany, Kyrgyzstan, Kazakhstan, Moldova, Belarus and other countries.

Currently, Georgia has not ratified any of the international agreements or conventions, which according to the Constitution would have legal power and would involve domestic law. So far, unlike other developed Georgia hasn’t worked out the letter of credit-related regulations, which would be in compliance with international standards. The above mentioned problems creates a legal “vacuum” in regulations oflettersof credit, which has to be eliminated.The data clearly shows that in Georgia payments made by documentary letters of credit are mostly used for international trade transactions. Due to territorial constraints, as well as residential and industrial enterprises, wholesale markets located close to each other the use of letters of credit is less common. Despite these circumstances, it is recommended that letter of credit payments should be used in Georgia for internal trading as well, which will guarantee that both seller of the goods and the buyer will adhere to the terms of the agreement. Measures should be taken by both government institutions and private companies.

Legislative “vacuum” concerning International Documentary letters of credit creates a lot of practical problems. First of all,it will be reflected in Georgian banking practices. In particular, we officially requested information from 3 major licensed commercial banks for the period of  2010-2014about the use of letters of credit and extracted following statistical records: according to the Bank Republic, in 2013-2014, they performed 68 letter of credit payment transactions amounting to50 million, including 35% or 17 million 500 thousand GEL was used for export operations. In 2010-2014 TBC Bank has performed 553 documentary letters of credit import transactions amounting to 1 billion GEL 21 million. During 4 years 96  documentary letters of credit were performed in exports with corresponding payments of 86 million. In 2011-2014 and until  May 1 of 2015 Procredit bank has issued and performed 17 documentary payments by letter of credit amounting to 493 217 2 079 087 euro and  2 079 087  US dollar.

In 2010-2014 years Georgia's foreign trade turnover amounted approximately to 47.5 billion dollars. Despite the fact that statistical records obtained from banks do not represent all of the market’s transactions of letters of credit (even thought the information was gained from the 3 major banks) and even if we multiplythe statistical volume of transactionsby 3, we get that during mentioned years the volume of this kind of transactions didnot exceed 4 billion US dollars, which is approximately 10% of the total trade turnover, which clearly proves that the index of letter of credit tools used is catastrophically low. Despite the fact that such form of payment is generally favorable, due to the lack of legal regulations and practice companies prefer not to deal with letters of credit when trading internationally.

Based on the information obtained from Tbilisi City Court,(there are no statistical records of issues concerning  letters of credit in Georgian courts) one can conclude that there is nearly no cases or practice concerning letters of credit.Hence, we are convinced that in order to increase the level of transaction via letters of credit in Georgia, a legislative act should be developed and applied, as in other countries, which would cover all aspects of such transactions including regulations and terms, mandatory obligations for export-import transactions, etc.

 

References:

  • 1. Georgian constitution,TB, 2014;
  • 2. Uniform rules on documentary acridities established by world trade organization, 2006.,Access mode: http//pravo.rse.ru./interi/doc/02.01);
  • 3. Convention on independent guarantees, http//pravo.rse.ru./interi/doc/02.01;
  • 4. Georgian Civil Law, TB, 2013.  თბ. 2013წ;
  • 5. Georgian Law on Central Bank and commercial banks;
  • 6. US Trade law., Access mode: http//pravo.rse.ru./interi/doc/02.01);
  • 7.  Davis A. The law relating to commercial Letters of credit. - London, Pitman, 1939., pp. 1-9.
  • 8. Cook A. Financing export and import. 1923.,p.32
  • 9. Pelfreman D. Ford P. Elements of Banking. Pritman Publish – ung. - London., 1996
  • 10. Brigham E. Garenski L. Financial Management (Theory and fractice). 7thed. - New York., The Dryden Press 1994.
  • 11. Folsom, R Gor..on, M Sepanogle L,  International business, Budapest, folpi 1996
  • 12. Perm G., Shea A., Arora A. The law and Practice of international banking. Bankinglaw. Vol. 2. - London, 1987., P. 296.
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Ваша оценка: Нет Средняя: 6.6 (9 голосов)
Комментарии: 8

Романович Людмила Геннадьевна

Тема работы актуальна и представляет интерес. Интересен литературный обзор. Однако, можно согласиться с предыдущими отзывами, что в целом статья познавательный характер.

Чиладзе Георгий Бидзинович

Interesting and relevant work. I wish continued success to the author. Yours faithfully, prof. G.B.Chiladze.

Татьяна Долина

Актуальная работа, выводы, полученные автором могут могут иметь практическое применение. Успехов.

Казбеков Бекет

Статья посвящена такому сравнительно мало распространенному, но актуальному инструменту как аккредитив. Интересны и опыт и решения. Весьма поучительны. Желаю хороших результатов! beket

Власова Мария Александровна

Интересная статья, содержит широкий обзор различных аспектов использования аккредитивов при осуществлении международных торговых сделок в Грузии. Приведенные фактические данные подтверждают авторский вывод о наличии проблем в данной сфере и необходимости разработки эффективных направлений по их устранению. Желаю успехов в дальнейших исследованиях!

Мороз Людмила Ивановна

В современных условиях активизации международной торговли и функционирования банковских систем тема статьи является актуальной, но содержание имеет несколько познавательно-констатированный характер по некоторым общим вопросам финансового менеджмента. В тексте отсутствуют ссылки на приведенную литературу. Желаю автору дальнейших успехов. Л.И.Мороз

Короткова Татьяна Леонидовна

Доклад носит ознакомительный характер и в нем отражена специфика правового обеспечения международной торговли Грузии. Полезен для партнеров грузинской экономики. С уважением Т. Короткова.

Ляпина Иннара Рафаильевна

Статья актуальна и интересна. Раскрывает особенности и проблемы использования аккредитивов в Грузии. Очень познавательно. Успехов в работе!
Комментарии: 8

Романович Людмила Геннадьевна

Тема работы актуальна и представляет интерес. Интересен литературный обзор. Однако, можно согласиться с предыдущими отзывами, что в целом статья познавательный характер.

Чиладзе Георгий Бидзинович

Interesting and relevant work. I wish continued success to the author. Yours faithfully, prof. G.B.Chiladze.

Татьяна Долина

Актуальная работа, выводы, полученные автором могут могут иметь практическое применение. Успехов.

Казбеков Бекет

Статья посвящена такому сравнительно мало распространенному, но актуальному инструменту как аккредитив. Интересны и опыт и решения. Весьма поучительны. Желаю хороших результатов! beket

Власова Мария Александровна

Интересная статья, содержит широкий обзор различных аспектов использования аккредитивов при осуществлении международных торговых сделок в Грузии. Приведенные фактические данные подтверждают авторский вывод о наличии проблем в данной сфере и необходимости разработки эффективных направлений по их устранению. Желаю успехов в дальнейших исследованиях!

Мороз Людмила Ивановна

В современных условиях активизации международной торговли и функционирования банковских систем тема статьи является актуальной, но содержание имеет несколько познавательно-констатированный характер по некоторым общим вопросам финансового менеджмента. В тексте отсутствуют ссылки на приведенную литературу. Желаю автору дальнейших успехов. Л.И.Мороз

Короткова Татьяна Леонидовна

Доклад носит ознакомительный характер и в нем отражена специфика правового обеспечения международной торговли Грузии. Полезен для партнеров грузинской экономики. С уважением Т. Короткова.

Ляпина Иннара Рафаильевна

Статья актуальна и интересна. Раскрывает особенности и проблемы использования аккредитивов в Грузии. Очень познавательно. Успехов в работе!
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