Business transactions of buying and selling from any part of the world are common. The trust factor lies in the payment methods opted by the buyer as well as the seller.
There are different methods to collect the payment from the customer and deliver the item. There are different payment methods available across the globe when international business is happening.
Letter of Credit vs Bills of Exchange
The difference between the letter of credit and bills of exchange is that Letter of credit focus on the payment mechanism and bills of exchange is nothing other than a payment instrument.
Comparison Table
| Parameter of Comparison | Letter of credit | Bills of Exchange |
|---|---|---|
| Risk Factor | There is less risk of the importer’s bank having payment as default as once the letter of credit is issued, it cannot be withdrawn. | There is a risk because it depends on the importer on making the payment or backing out of the process |
| Holding authority | Greater control is in the hands of the importer | Greater control is in the hands of the exporter |
| Mode | Bank usually pays the money | It is always the individual who pays the money |
| Discount factor | There is no discount factor here | Seller can avail the discount facility |
| Payment factor | It will set the rules of the payment and it doesn’t support the actual payment process | Actual payment is received here by the seller |
What is Letter of Credit?
Letter of credit is also known as Documentary credit and it is a part of Trade finance. There are usually two parties involved in this, one is the Buyer and the other one will be Seller.
The seller gets a query regarding the buyer’s requirement and then proceeds by letting the buyer knowing the product and the process.
Seller doesn’t agree for the same and insists buyer make the payment and get the goods delivered. A buyer approaches a bank which is called Opening bank/ issuing bank for issuing the Letter of credit to purchase the product.
Before the transit is made, the seller documents the Transport, Insurance, and other overhead details to the Advising bank then later the same goes to the issuing bank and then it reaches the buyer at last.
What is Bills of Exchange?
Bill of exchange usually happens between three parties, Drawer, Drawee and the Payee.
In the first instance, Buyer buys a product and usually prefers payment through cash. In the second instance, Buyer buys a product but prefers 45 days credit to make the payment.
The draft issues are called a bill of exchange and it is an acknowledgment signed by the Buyer and the same is given back to the Seller.
The third instance involves a certain amount of benefit too in the form of Bill of Exchange because cash is not blocked until the credit period.
Main Differences Between Letter of Credit and Bills of Exchange
- The main difference between Letter of credit is a financial document is, LOC is issued by a bank or a financial institution upon the request of the buyer to the seller but the bill of exchange is an acknowledgement that revolves around the buyer, seller and payee.
- Letter of credit doesn’t have a specific time period as credit, but bill of exchange has this credit policy concerning the days that have been asked for.
References
- https://papers.ssrn.com/sol3/papers.cfm?abstract_id=151849
- https://cbr.cba.org/index.php/cbr/article/download/2486/2486/
- https://digitalcommons.nyls.edu/cgi/viewcontent.cgi?article=1059&context=journal_of_international_and_comparative_law
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