What is a Confirmed Letter of Credit?

A confirmed credit is one to which a second bank, usually in the exporter’s country, adds its own undertaking to that of the issuing bank, that payment will be made. 

This is appropriate if an exporter does not find the security of an unconfirmed credit sufficient (due to issuing bank risk or political / economic risk associated with the importer’s country). 

When the beneficiary receives an irrevocable and confirmed letter of credit, he has not only the commitment of the issuing bank, but also a binding undertaking given by the confirming bank to pay when documents are presented which comply with the terms of the credit.

Confirmed credits are normally restricted to the confirming bank for negotiation / payment.

The confirming bank will not take such a risk without getting paid for it. It will charge a confirmation fee, the size of which will depend on:

  • the credit amount
  • date of expiry,
  • the standing of the issuing bank and
  • the country of issuance.

Key Question:

Are your sales teams factoring in the potential cost of confirmation when requesting letters of credit from buyers?

Many UK banks will take the confirmation (risk) fee as an annual percentage charged on a quarterly basis or part thereof. This is all well and good if a credit is open for say, 3 or 6 months, but what if your credit expires after 4 months? The confirming bank may be charging you for a period where it is not actually at risk (although in fairness may reflect the ‘re-insurance’ cost to the bank).

By way of a crude example:

L/C value = £1,000,000.00

Validity period: 4 months

Confirmation fee charged at 2% p.a (charged quarterly or part thereof)

Fee = £10,000.00 (6 months = 1%)

If the bank charged for the actual risk period (4 months), the fee would amount to £6.666.67, almost£3,400.00 LESS than the illustration above.

Note also, that an additional ‘risk fee’ will normally be applied for drawings under letters of credit where a maturity date for payment falls after the date of expiry. This applies to letters of credit which incorporate extended payment terms (eg: 60 days, 90 days after sight, transport document etc.,). Such credits are known as ‘term’ (available by ‘negotiation or ‘acceptance’) or ‘deferred payment’. The confirming bank will take this fee to reflect that it is at risk for a period extending beyond the expiry date of the credit.

It is worth considering that whilst banks often charge ‘standard tariffs’, there may be room for discussion on the way in which they take such fees, particularly for exporting companies who receive high volume or high value Letters of Credit. We are aware that many banks will look at charging these fees on a monthly or weekly basis and in some cases will charge for ‘actual period’, thus offering the potential for significant cost savings.

MJ Hayward Associates will be very happy to assist in identifying suitable confirming banks and financiers and discussing confirmation fees as part of our service to our clients.

Call us on 0800 043 4052 or email : mark@mjhayward.co.uk for further information.

2017-03-19T09:07:58+00:00 March 5th, 2016|