What is the difference between LC and stand by LC?

Understanding the Differences between Letters of Credit (LCs) and Standby Letters of Credit (SBLCs)

In international trade transactions, letters of credit (LCs) and standby letters of credit (SBLCs) play crucial roles in providing payment guarantees and mitigating risks. While both instruments share the common feature of guaranteeing payment, they differ in their primary purposes and conditions of fulfillment.

Documentary Letters of Credit (LCs)

Documentary letters of credit are payment commitments issued by a bank (issuing bank) on behalf of its customer (applicant) to the beneficiary (seller). They guarantee payment to the beneficiary upon the presentation of specific documents that comply with pre-defined conditions within a specified period.

Key characteristics of LCs include:

• The issuing bank guarantees payment only after reviewing and verifying the conforming documents, such as shipping documents, invoices, and certificates of origin.
• The conditions for payment are clearly outlined in the LC, and any deviation from these conditions may result in the refusal of payment.
• LCs are typically used in situations where the buyer and seller have an ongoing relationship or when the buyer requires assurance that the goods or services will be delivered before making payment.

Standby Letters of Credit (SBLCs)

Standby letters of credit are payment guarantees that are contingent on the occurrence of specific events or the fulfillment of certain conditions. Unlike LCs, SBLCs do not require the beneficiary to present documents to trigger payment.

Key characteristics of SBLCs include:

• Payment is made only if the applicant (who requests the SBLC) defaults on its obligations or fails to meet pre-agreed conditions.
• SBLCs are often used to secure performance guarantees, bid bonds, and guarantees for repayment of loans.
• The beneficiary can draw on the SBLC if they provide evidence that the applicant has not met its obligations.

Summary of Key Differences:

Conclusion:

Letters of credit and standby letters of credit are essential financial instruments in international trade. LCs provide guarantees of payment for goods or services received, while SBLCs offer payment guarantees for the fulfillment of specific obligations. Understanding the differences between these instruments is crucial for businesses and individuals involved in cross-border transactions to mitigate risks and ensure smooth payment processes.