Non-Fund Based Facilities
Quasi Credit
Quasi Credit signifies financing for trade, and it concerns both domestic and international trade transactions. A trade transaction requires a seller of goods and services as well as a buyer. Various intermediaries such as banks and financial institutions can facilitate these transactions by financing the trade
Letters of Credit
A Letter of Credit is defined as a written instrument issued by a banker at the request of a buyer (applicant) in favour of the seller (beneficiary) undertaking to honour the documents or drafts drawn by the seller in accordance with the terms and conditions specified in the credit , within a specified time.
A Letter of Credit is an arrangement by means of which a Bank (Issuing Bank) acting at the request of a customer (Applicant), undertakes to pay to a third party (Beneficiary) a predetermined amount by a given date according to agreed stipulations and against presentation of stipulated documents. All documentary credits have to be issued by Banks subject to rules of Uniform Customs and Practice for Documentary Credits (UCPDC).
Parties Involved in Letter of Credit
- Buyer / Importer
Applicant of Letter of Credit
- Seller / Exporter
Beneficiary of Letter of Credit
- Opening Bank
Letter of Credit issuing bank
- Advising Bank
Bank that advises the credit to beneficiary at the request of the issuing bank
- Confirming Bank
Bank which adds guarantee to the credit opened by another Bank thereby undertaking the responsibility of payment/negotiation/acceptance under the credit in addition to Issuing Bank
- Negotiating Bank
Bank which is nominated by Issuing Bank to pay/to accept draft or to negotiate
- Reimbursing Bank
Bank which is authorized by the Issuing Bank to pay to honour the reimbursement claim in settlement of negotiation/acceptance/payment lodged with it by the paying / negotiating or accepting Bank
Types of Letter of Credit
- Revocable LC
Revocable Letter of Credit is a credit which can be revoked or canceled or amended by the Bank issuing the credit, without notice to the beneficiary. If a credit does not indicate specifically it is a revocable credit the credit will be deemed as irrevocable in terms of provisions of UCPDC terms
- Irrevocable LC
Irrevocable Letter of credit is a firm undertaking on the part of the Issuing Bank and cannot be canceled or amended without the consent of the parties to letter of credit, particularly the beneficiary.
- Confirmed letter of credit
Confirmed Letter of Credit is a letter of credit to which another Bank (Bank other than Issuing Bank) has added its confirmation or guarantee. Under this, the beneficiary will have the firm undertaking of not only the Bank issuing the LC, but also of another Bank. Confirmation can be added only to irrevocable LC
- Transferable LC
LC which can be transferred by the original beneficiary in favour of second or several second beneficiaries
- Red clause LC
It contains a clause providing for payment in advance for purchasing raw materials, processing and packaging etc.
- Green clause LC
Green Clause Letter of Credit is an extended version of Red Clause Letter of Credit in the sense that it not only provides for advance towards purchase, processing and packaging but also for warehousing & insurance charges. Generally money under this credit is advanced after the goods are put in bonded warehouses etc., up to the period of shipment.
- Sight LC / Usance LC
In Sight LC, payment would be made by the issuing bank at sight, on demand or on presentation. Under this LC, payment is made immediately to the beneficiary/seller/exporter upon presentation of the correct documents in the required time frame.
In Usance LC, draft is drawn on the issuing bank or the correspondent bank at specified usance period. It is a kind credit that will specify when payment will be made at a future date and upon presentation of the required documents.
- Back to Back LC / Countervailing Credit
Under this the LC is opened with security of another LC. Thus, it is basically a credit opened by middlemen in favour of the actual manufacturer/supplier
- Standby LC
Unlike a traditional letter of credit where the beneficiary obtains payment against documents evidencing performance, the standby letter of credit allows a beneficiary to obtain payment from a bank even when the applicant for the credit has failed to perform as per bond
Standby letter of credit is very much similar in nature to a bank guarantee.
- Revolving LC
A revolving letter of credit is a guaranteed payment arrangement with a bank that is used to facilitate repeat sales transactions in international trade
Bank Guarantee
A bank guarantee refers to a promise provided by a bank or any other financial institution that if a certain borrower fails to pay a loan, then the bank or the financial institution will take care of the losses. The bank will assure the original creditor through this bank guarantee that if the borrower does not meet his or her liabilities, then the bank will take care of them.
Parties Involved in Bank Guarantees
- Applicant – The Principal Debtor
- Beneficiary – Creditor
- Guarantor – The Surety
Types of Bank Guarantees
- Performance Guarantee
Performance guarantees are issued by the banks on behalf of a Service Contractor, who has to effectually perform all the conditions of the contract between him and the department/company that awarded the contract. The bank has to discharge the financial liability of the contract agreed in the guarantee, if the contract is partly or fully not performed by the customer. Such type of guarantees issued by the bank is called Performance Guarantee. Many a time the terms of the contract may be of highly technical in nature and bank is generally not expected to know the technical aspects of the contract. Therefore the bank assumes only the financial liability of the contract. Since the issuance of performance guarantee is more complicated and risky, before issuing performance guarantees, the bank has to ensure that the customer has sufficient experience in the line of business and he has capacity and means to carry out the obligation under the contract.
- Financial Guarantee
Financial guarantees are direct credit substitutes where a bank irrevocably undertakes to guarantee the repayment of a contractual financial obligation. Guarantees issued in respect of constituent’s liability issued in favour of tax/customer/excise/court authorities in respect of disputed claims, payment of taxes, customs and excise etc. Will come under the classification of financial guarantees. While issuing such guarantees the bank should be satisfied about the financial strength/liquidity of the customer on whole behalf the guarantee is issued.
- Deferred Payment Guarantee
This refers to a bank guarantee or a payment guarantee that is offered to the exporter for a deferred period or for a certain time period. When a buyer purchases capital goods or machinery, the seller will give credit to the buyer when the buyer’s bank gives a guarantee that it will pay the unsettled dues of the buyer to the seller. Under this type of guarantee, payment will be made in installments by the bank for failure in supplying raw materials, machinery or equipment.
The performance guarantees commonly issued by banks are :-
- Bid Bonds
Under this type of guarantee, there will be a supply bidding procedure. This will be conducted by the contractor for the owner of an infrastructure or industrial project or any kind of operation. The contractor of the project will guarantee that the best bidder or the highest bidder will have the capability and authority to implement a project as per his or her preferences. The bid bond will be given to the owner of the project as a proof of guarantee and the bond will imply that the project will have to be devised according to the bid contract.
- Performance Guarantees
Under a performance guarantee, compensation of money will be made by the bank when there is any delay in delivering the performance or operation. Payment will have to be made even if the service is delivered inadequately.
- Advance Payment Guarantees
Under this kind of guarantee, an advance payment will be made to the seller. There will also be a guarantee that if the seller fails to deliver the service or product accurately or promptly, the buyer will receive a refund of the payment.
- Retention Money Guarantees
Retention money is a part of the amount payable to the contractor, is retained and payable at the end after successful completion of the contract. Retention Money guarantee is issued to ensure that retention money withheld by the beneficiary is released to the applicant (contractor) so that he gets sufficient working capital to complete the contract.
- Maintenance Guarantees/Bonds
Even after completion of the contract to the satisfaction of the employer, the contractor may be asked to furnish a maintenance bond so that ant shortcoming in the work rendered is compensated for. These guarantees are normally valid for 1/2 year and are released thereafter