What is a "local letter of credit"?

Local Letter of Credit, also known as Domestic Letter of Credit or Subsidiary Letter of Credit.

If a manufacturer wishes to export its products and an importer wishes to purchase the required products, but due to certain reasons they are unable to directly sign a contract, or because the buyer and seller are geographically distant, market information is limited, or business channels are blocked, it becomes necessary to engage middlemen or brokers. The middlemen aim to protect trade secrets, seize business opportunities, and obtain commercial profits or commissions.

Using this trade method, the middleman must sign two contracts. Generally, the middleman is fully aware of the manufacturer's product performance, quantity, price, and other conditions, and then seeks customers. Once a deal is struck, the middleman first signs a contract with the importer, known as the first contract. Based on the terms of the first contract, a letter of credit is issued, called the Original Credit or Master Credit. The applicant for the Original Credit is the importer, and the beneficiary is the middleman.

The middleman signs a contract with the manufacturer, known as the second contract. The letter of credit opened based on the second contract is called a Local Credit. The applicant for the Local Credit is the middleman, and the beneficiary is the manufacturer.

The difference between the Original Credit and the Local Credit is: the unit price and total amount of the goods are different. The price listed in the Original Credit is higher, while the price in the Local Credit is lower. The difference between the two is the middleman's profit or commission; the shipment dates are also different. Specifically, the shipment date under the Local Credit is earlier, and the shipment date under the Original Credit is later. This approach ensures timely delivery. If other terms are required, they depend on the specific circumstances.

In international trade practice, if an importer requests a letter of credit, a deposit, or margin, must be paid. However, the applicant for a Local Credit uses the Original Credit as collateral. At the same time, the advising bank of the Original Credit is also the issuing bank of the Local Credit. This practice is known as one bank handling two letters of credit with three functions: advising, issuing, and payment.

To protect the rights of the bank issuing the Local Credit, express terms are generally used to safeguard the bank's interests. For example:

"Drafts drawn under this credit shall only be paid upon receipt by this bank of documents from the applicant that comply with the terms of the Original Credit."

The essential meaning of this term is that the advising bank of the Original Credit also acts as the issuing bank of the Local Credit, and since the Local Credit is opened without a cash deposit but uses the Original Credit as collateral...

Furthermore, as the middleman profits from the difference in the amounts between the two credits, the required documents differ. It is essential for the exporter under the Original Credit to provide invoices and documents that meet the importer's requirements, allowing the importer to pay and collect the documents.

However, one point should be clarified. According to the general requirements for letters of credit, documents presented that comply with the terms of the credit should be negotiated or paid. A Local Credit must specify such terms to clarify its function.

The bank that issues a Local Credit bears the risk of one letter of credit while collecting bank fees for two letters of credit.