What is a bank letter of credit?


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A letter of credit issues by a bank is a document that is prepared for a provider of goods or services that reassures them they will be paid by the bank if they fulfill their end of the agreement (supplying the goods or services), regardless of whether the actual recipient has the funds to do so.

It's basically a guarantee that the bank will be willing to pay the seller, regardless of whether the buyer has the funds to make payment himself.

Their will usually be contractual obligations stipulated in the letter of credit, such as that the good have to be of a certain standard or meet a certain description before payment will be made.

The way to think of it is a lot like an IOU issued by the bank, on behalf of a buyer. This IOU is held by the seller, and then returned to the bank in exchange for payment once the contracted services are complete.

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