Letter-of-Credit Payments

Letter-of-Credit Payments


a form of noncash, out-of-town payment for goods and services using letters of credit, whereby payment of supplier bills is made at the bank serving the supplier from funds specially deposited for this purpose at the purchaser’s bank. Introduced in the USSR in 1931, this method is used regularly for certain types of deliveries and periodically for irregular, one-time deliveries of products or services. It is also used as a sanction applied by the supplier against purchasers who are systematically late in paying for the products. Prior to 1967, it was also used by the bank as a measure against poorly operating enterprises.

The letter of credit is arranged by the purchaser’s bank using the purchaser’s own funds or a credit issued on the basis of a special statement. In this statement the purchaser is obliged to indicate the conditions of the letter of credit-—for instance, the effective term at the bank serving the supplier, ordinarily within 25 calendar days from the issuing of the statement; the name of the supplier and the general category of goods and services for which payment should be made; the total amount of the letter of credit (from 100 rubles); and the order of payment of supplier bills-—that is, with acceptance or without acceptance by the buyer’s representative. If payment of the bills is envisaged without acceptance by a representative, the purchaser can stipulate additional conditions, such as shipment of goods to certain destinations, prohibition of partial payments, delivery of documents certifying product quality, and certain others.

The buyer’s bank accounts for, or deposits, the total amount of the letter of credit on a special account from which the amounts paid to the supplier are subsequently reimbursed. The bank notifies the supplier’s bank and the supplier himself by mail or telegraph that the purchaser has arranged a letter of credit. Having received notification that a letter of credit has been arranged, the supplier dispatches the goods or provides the services in accord with the conditions of the letter of credit, writes out the bills for the buyer, and presents them to the bank. The supplier’s bank, having verified the bills and the presence of shipping and other documents as well as their conformity to the conditions of the letter of credit, pays the bills, transferring the amounts owed to the supplier to his account. Payment of cash from a letter of credit is not permitted.

The paid bills are sent to the buyer’s bank for reimbursement of the amount paid to the supplier from the deposited funds. Within the allotted time the buyer can refuse reimbursement if the conditions of the letter of credit have been violated in the payment of funds to the supplier. During the term of the letter of credit, the purchaser can alter its conditions and reduce the total amount; however, here the supplier retains the right, within a stipulated time, to present bills for goods dispatched prior to receiving notification of a change in the conditions of the letter of credit, following the initial conditions. At the end of the term, the letter of credit is closed, and its unused total is returned to the account of the buyer or sent to retire the debt of the loan granted for the arrangement of this letter of credit.

Letter-of-credit payment guarantees the supplier immediate payment for the dispatched product or rendered services, but it also creates inconveniences for him, inasmuch as the dispatching of the product is dependent on the time that the letter of credit is arranged. This does not always conform to the possibilities for planned use of the means of transportation and warehouse facilities and sometimes causes a slowdown in the turnover rate of working capital. For buyers, letter-of-credit payment entails the tying up of money for a protracted time and thus is undesirable in most instances. These features have limited the development and area of use of letter-of-credit payments. The proportional amount of letter-of-credit payments in the bank-handled turnover of payments for goods and services is insignificant: 3.1 percent in 1940, 1.7 percent in 1950, and 1.2 percent in 1968.

In using a letter of credit in payments between capitalist nations, as well as capitalist and socialist nations (as a rule, for commercial operations), the importer, through a bank in his own nation, opens up a letter of credit at a bank of the exporter nation. The letter of credit guarantees payment for the value of the commodities upon presentation by the exporters of documents of title to goods-—bills, bills of lading, quality certificates, and so forth-—provided by the conditions of the letter of credit. Payment is made in the currency stipulated by the letter of credit at the exchange rate on the day of the payment.