A Documentary Letter of Credit (DLC), also sometimes called an At Sight Letter of Credit (Sight LC), is a financial tool used in international trade to ensure payment to sellers.
Understanding Documentary Letters of Credit
A DLC acts as a guarantee from a bank that the seller (exporter) will receive payment once they have fulfilled all the conditions stipulated in the credit. This tool provides a more secure way to conduct international transactions, minimizing risks for both parties involved.
How DLCs Work:
| Step | Action |
|---|---|
| 1 | Importer (Buyer) applies for a DLC at their bank. |
| 2 | Issuing Bank approves and sends the DLC through a SWIFT MT700 message to the seller's bank. |
| 3 | Advising Bank informs the exporter (seller) of the DLC. |
| 4 | Exporter (Seller) ships the goods and provides the required documents to the bank. |
| 5 | Paying Bank examines the documents against the DLC requirements. |
| 6 | If all conditions are met, the Paying Bank makes payment to the exporter. |
Key Aspects:
- SWIFT MT700 Message: DLCs are transmitted using the SWIFT MT700 message, a standard format for documentary credits in the SWIFT network. This ensures secure and efficient communication between banks.
- Conditional Payment: Payment is not automatic. The exporter must comply exactly with the requirements stated in the DLC to receive payment.
- Risk Mitigation: DLCs reduce the risk for the seller, ensuring payment once obligations are met, and for the buyer, assuring the goods conform to their specifications.
- At Sight Payment: A significant feature of a DLC is that it is often payable "at sight," which means the bank pays the exporter immediately upon presentation of conforming documents.
Example
Suppose an exporter in China sells goods to an importer in the United States.
- The US importer gets a DLC from their bank.
- The Chinese exporter receives notice of this DLC through their bank.
- Upon shipping the goods and presenting the specified shipping documents to their bank, they get paid immediately.
This method ensures the seller gets paid once they have fulfilled their contract obligations, and the buyer is confident that the payment will be made only when the seller complies with all requirements.
