What Is a Deferred Letter of Credit?
A deferred letter of credit (LC) is a document that is issued by a financial institution and is often used in trade finance. Like all types of letters of credit, a deferred LC is used to provide assurance that payment will be made for goods ordered by a buyer, allowing the seller to make use of the document to obtain financing in order to manufacture and ship that order. What is different with this document is exactly when and how that payment will be remitted to the seller’s bank.
With a deferred letter of credit, the issuing bank advises the seller’s advising bank that the resources to cover payment for an order are available and set aside for that purpose. This is often very helpful when it comes to international trade arrangements, since the exporter or seller has something to demonstrate the commitment of the buyer. Within the text of the letter will be particulars about when the funds will be forwarded to the receiving bank. This is usually some time after the order is filled and received, and may even include provisions for issuing a series of payments rather than a single payment to cover the cost of the order and shipping.
For example, one used for a purchase may include wording that provides specific dates and amounts that will be tendered on those dates in order to satisfy the obligation to the seller. There are usually some provisions in the document that also protect the buyer, in that if the goods are not delivered by the agreed upon receiving date, or if the goods are lost or damaged in transit, the schedule of payments may be subject to revision until those issues are resolved. From this perspective, the deferred method does help to protect the interests of the buyer while still giving the seller a certain degree of guarantee of receiving payment.
Since the deferred letter of credit is issued by a financial institution, this means that the buyer must supply documentation to prove that any exceptions listed in the document did in fact occur before exercising the option to delay payment. If the items in the order arrive on time and are in fact those described by the seller, in other words, the buyer cannot delay the payment based on a decision that the goods are not what were desired after all. Only if the seller does not fulfill his or her obligations can the buyer take action to delay the payments, and then only if that failure can be proven to the satisfaction of the issuing bank.
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