Back-to-Back Letters of Credit - Explained
What are Back-To-Back Letters of Credit?
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Table of ContentsWhat is a Back-to-Back Letter of Credit?Academics Research on Back-to-Back Letters of Credit (LC)
What is a Back-to-Back Letter of Credit?
Back-to-back letters of credit are used in business transactions where an intermediary is needed between a buyer and a seller. A firm, a broker, or financial consultant will often act as an intermediary between a buyer and a seller.
A Back-to-back letter of credit is comprised of two distinct letters of credit (LCs). One is issued by the buyer's bank. The other is issued by the intermediary's bank. The buyer's bank issues the LC to the intermediary. The inetrmediary's bank gives the seller the second LC stating that it will make payment if the buyer does not.
A seller is assured to get payment once the terms of the contract are fulfilled and evidence presented to the intermediary's bank. Two letters of credit (LCs) are used in this transaction. The original and first LC is issued by the buyers bank and given to the intermediary. The intermediary takes this original LC to his bank for the issuance of the second LC in which the seller will be the beneficiary.
Academics Research on Back-to-Back Letters of Credit (LC)
- Increasing the Transferability of Documentary Letters of Credit, Waldmann, R. J. (1967). Increasing the Transferability of Documentary Letters of Credit.Harv. Int'l. LJ,8, 116.
- Bank Guarantees and Letters of Credit: Time for a Return to the Fold, Kozolchyk, B. (1989). Bank Guarantees and Letters of Credit: Time for a Return to the Fold.U. Pa. J. Int'l Bus. L.,11, 1.
- Letter of credit-Doing business in a global market, Weissman, I. (1996). Letter of credit-Doing business in a global market.The CPA Journal,66(1), 46.
- Assignability of Letter of Credit Proceeds: Adapting the Code to New Commercial Practices, McJohn, S. M. (1993). Assignability of Letter of Credit Proceeds: Adapting the Code to New Commercial Practices. The right to receive payment under a letter of credit may be assigned, even if the letter of credit prohibits assignment of proceeds. This article argues that this rule should be changed, to give effect to clauses barring assignment of proceeds. The rule made sense where letters of credit were primarily used in sales of goods transactions. In that context, the rule simply mirrored the contract law doctrine that the right to receive payment under a sales contract may be freely assigned (subject to any defenses the payor might have). But letters of credit are not used in a broader range of transactions, and are often used as a standby security device, as opposed to a primary means of payment. Where such letters of credit are more like collateral than a means of payment, the parties should be free to agree on the structure of the transaction, including limits on assignment. In addition, the parties can effectively bar assignment by drafting the conditions for drawing the letter of credit. The bar against assignment then, is both outdated and ineffective (and thereby inefficient, because the parties must expend some resources in structuring and drafting around the rule).
- Commercial Paper, Bank Deposits and Collections and Letters of Credit, Bailey III, H. J. (1964). Commercial Paper, Bank Deposits and Collections and Letters of Credit.Bus. Law.,20, 711.