Major Risks in L/C Use
Although L/C is usually easier to be accepted by both of the business parties, it is often exploited by dishonest business man due to its uniqueness (especially its rigid conformity rule). There are also a series of risks with it. From the perspective of export business, there are the following risks concerning the exporter.
1. The importer might not issue the letter according to the contract.
Clauses in the contract should be consistent. Yet due to multiple causes, the importer usually does not issue the letter according to the contract, causing difficulties in carrying out the contract or losses to the exporter. Most commonly, the importer does not issue the letter in due course or even never issues it (e.g. when there are changes in the market or stringent regulations on foreign exchange and importation).The importer may also add in the letter some clauses that are beneficial to them (e.g. unilaterally enlarging the insurance coverage and amount, changing the destination port or the package) so as to modify the contract. They may also put in the L/C some restrictive regulations.
2. The importer purposely sets up some barrier.
The importer often takes advantage of the conformity rule in the L/C by adding in it some impossible requirements or putting up some traps, such as those L/Cs with uncertain conditions, typographical mistakes or contradicting clauses.
Typographical mistakes in L/C may concern the name of the beneficiary, the address, the vessel, validity date, etc. Such minor mistakes directly impact upon the documents to be submitted, which might become the excuse of the opening bank’s refusal to payment. Besides, in some L/Cs, partial shipment is forbidden while there are deadlines for each shipment; bill of lading is allowed to be presented while transshipment is forbidden; there are overlapping kinds of insurance required. All of the above are self-contradictory.
3. The import might counterfeit the L/C, steal blank L/C printed by other banks, or conspire with clerks from a bankrupted or to be bankrupted bank to issue and send a L/C to the exporter, causing whom a loss in goods and funds if the fraud is not discovered.
Here is a case: A foreign trade company in Henan once received a documentary L/C issued by Standard Chartered Bank Ltd. Birmingham branch, England, with an amount of USD$3720000, the notifying bank being National Westminster Bank Ltd. London. Since the letter was not notified by the beneficiary’s local bank as it should be, its authenticity cannot be guaranteed. The company took the letter to the Bank of China to identify before shipping. Something suspicious were discovered by the professionals in the bank:
1) The layout of the letter was old-fashioned and there was no consignor’s address. The postal stamp was fuzzy and the location cannot be recognized.
2) The letter appointed a notifying bank, National Westminster Bank Ltd. London, which was unusual.
3) The address of the acquiring bank cannot be found on the Bank Year Book.
4) The signature of the letter of credit is printed, rather than hand signed, not matching.
Also the letter of credit requires of air cargo to Nigeria, a country where multiple frauds happened. In light of the above, the bank determined that the letter was forged. After verified with the issuing bank’s head office, the case was clear. Thus a counterfeited L/C fraud was avoided.
4. The import requires documents that are difficult to obtain.
Documents signed by a certain person, bill of lading marking the cargo place of the ship or containers within the ship, or imparting a negotiation application with the insurance company’s receipt, all of the above are impossible to the seller as a beneficiary or uncontrollable by the seller.
For example, there are clauses in L/C requiring the beneficiary to present the quality, quantity and price inspection certificate issued byt the inspection bureau. But according to China Commodity Inspection Bureau, they can only offer quality and quantity inspection certificate, no price inspection certificate, thus unable to be obtained by the seller. The seller should immediately ask the buyer to modify the letter through the bank and cancel words concerning price inspection. Another example is that porcelain and bulk ore exported outside China are to be shipped in single hatch, the latter also not allowed to be shipped in deep tank, as stated in some L/C. Thus a note of not allowed to be shipped in deep tank should be included in the bill. In reality, the consignee’s requirement should be taken into consideration but it should not be listed in the L/C because allocation of the ship is a right reserved to ship owners and as long as they properly and discreetly transport the goods, the goods owner should not interfere. Also, they have to consider the whole ship when allocating the goods, thus it is not for the goods owner to designate the loading place.
5. Clauses in the L/C may be at odds with national or related authorities’ regulations.
In practice, the seller should be careful that although some clauses in the L/C is beneficial to himself, some regulations in some countries, regions or from some issuing departments may prevent these clauses from going into effect. Precautions should be taken. Sometimes the seller has to reason with the parties concerned to eliminate such clauses.
For example, usance L/C from other countries states that the interests and final discount fees should be afforded by the buyer. But when it is time to pay, the issuing bank may deduct the interests income tax, as required by laws in certain countries or regions. Here is a case, Paris National Bank, with an eye to the French tax law, deducted 30% interests income from the interests paid to the beneficiary. Yet the law is targeted towards French corporate and citizens, and the usance draft is financed by the export company from this country, which means the buyer should afford the interests and should not cut the interests income tax. Also, such tax laws exist in Italy and Cyprus. The exporters should consider this and tell the overseas buyer to modify such clauses concerning interests income tax in the L/C. Another case: L/Cs from overseas may require insurance from London Association and China People’s Insurance Company, to be more specific, to be insured against all risks with the London Association and against war risks with CPIC. Although insurance in two different areas is possible, the CPIC requires its clients to choose only one insurance company. So the Chinese exporter here should contact its client to delete one of the institution and then apply for one.
6. Alter the L/C to cheat
The importer might alter invalid L/C, change its sum, shipping date and beneficiary and send or give it to the beneficiary for export goods or bank financing with a L/C from the exporter. For example, a foreign trade company once received a L/C with a sum of 3.18 million US dollars from a Hong Kong client. After examination the local Bank of China found apparent altering marks with the sum, shipping date and beneficiary name. The beneficiary was notified and consulted the opening bank only to find out the L/C was altered and given to the company so as to get a 6.30 million US dollars L.C from the bank in China. The L/C was actually an outdated one. Thanks to the carefulness of the bank, this fraud of huge amount was prevented.
7. Fraud with counterfeited confirmed L/C
Fraud with counterfeited L/C is when an importer wins the trust of the exporter with a fake L/C to counterfeit a confirmed letter from a big international bank so as to get the export goods. For example, a local Bank of China once received an electronic L/C from a western bank in Jakarta, Indonesia asking New York Suisse Joint Bank to confirm it, the sum being 6 million US dollars, the beneficiary being a foreign trade company in Guangdong and the goods being 2 million snake skins. But there was no opening bank’s information in the Bank Book of Year. Later a confirmed letter from Suisse Joint Bank in Zurich was received, with two signatures, one of which unrecognizable. Then the beneficiary has got the goods ready for shipment. To make things sure, Bank of China persuaded the beneficiary not to ship the goods first, and on the other hand got into contact with the Suisse Joint Bank in New York and Zurich only to get a negative answer. Now it was sure that it is a counterfeited confirmed L/C to swindle the goods.
8. L/Cs invalid until further notice
If a L/C does not state clearly the shipment date, the import permit and goods sample inspection, the seller might suffer a loss due to the price change of the goods when waiting for the notice after the goods are ready.
9. Contents in the L/C not concerning the deal.
If a L/C states that payment is possible after the goods have arrived, the goods are qualified after inspection, goods are verified by the foreign exchange authorities, or when the importer have honored the draft (like when the buyer does not honor the draft, the opening bank has no responsibility), it is not a L/C deal and the exporter has no security.
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