UCP-600 Articles 4 and 5

 Article-4

Credits v. Contracts 

-a. A credit by its nature is a separate transaction from the sale or other contract on which it may be based. Banks are in no way concerned with or bound by such contract, even if any reference whatsoever to it is included in the credit. Consequently, the undertaking of a bank to honour, to negotiate or to fulfil any other obligation under the credit is not subject to claims or defences by the applicant resulting from its relationships with the issuing bank or the beneficiary.

Explanation: Let’s first understand what are credit and contracts, letter of credit is one of the payment method in trade business, sales contracts is a written consent between importer and exporter when there is a trade going to take place, these contracts will include that, what, when and how will be done and both parties remain agree with those terms. That is one of the main reason we mostly look for a copy of sales contracts, purchase order or profroma invoice (will discuss PO and PI later) while issuing the letter of credit, we also look for at least one of the above said document to avoid issuance of a fraud letter of credit.

Credit is being referred here from letter of credit, it is a separate undertaking issued by issuing bank to honour the complying presentation.

We may use the sales contracts as an information purpose to issue credit, however, once credit is issued, it becomes an undertaking of issuing bank and there is no relation to sales contracts after issuance, even though, if it was issued on basis of that sales contracts.

Banks are not bound or concerned by such contract even if letter of credit shown any reference like “this credit is issued as per of sales contracts/PO/PI no. xyz”

This undertaking of a bank will not be defences if there is good relationship between issuing bank or applicant or issuing bank or advising bank or beneficiary etc., which we can understand with below example-

Let’s suppose that importer is having other business’s as well with their bank (issuing bank of the letter of credit) apart from trade business wherein they hold the fixed deposit in millions and provide a good revenue to the bank, later on they opened a letter of credit for which issuing bank received a complied presentation, now as per letter of credit terms, UCP and ISBP they have to make the payment. Wherein, applicant asks to hold the payment as they do not have the funds in their checking/current account and make the payment after few days. Issuing bank has to make the payment at any cost whether they debit the account of applicant or book short terms loan for crystallization of the bill or utilize their own funds to credit the beneficiary or presenter.  

-A beneficiary can in no case avail itself of the contractual relationships existing between banks or between applicant and the issuing bank.

Above para of UCP 600 is similar to above situation, however, here beneficiary comes into picture and we talk about contractual relationships, which means if there is any other contract between beneficiary and bank that will not be applicable and should not impact in case of letter of credit as this is separate from other contracts or relationships.

-b. An issuing bank should discourage any attempt by the applicant to include, as an integral part of the credit, copies of the underlying contract, proforma invoice and the like.

We should not call sales contracts, proforma invoice and purchase order under field 45a of letter of credit as one of the document while issuing the letter of credit, if customer requests through their letter of credit issuance application, we should discourage this attempt and go back to make them understand the consequences and purpose of above said documents.

Article-5

Documents v. Goods, Services or Performance

Banks deal with documents and not with goods, services or performance to which the documents may relate.

Above one liner para of UCP 600 article-5 states that banks deals with only document not with goods and services or performance. Commercial letter of credits are issued mostly for goods. For services and performance a guarantee or stand by letter of credit can be issued, however, a letter of credit may also be issued for services or performance.

Let’s first understand what is services or performance letter of credit.

A credit which are covering a service or performance to be performed by beneficiary instead of delivery of goods, may be kept in that category, for example, Bank of India, India issued one letter of credit in favor of ABC Co Ltd., China, to perform an over bridge  construction in India.

Because, bank issues an undertaking to honour the complying presentation and not concern about the goods or services, have to make the payment upon complied presentation, wherein, there may be a case applicant received the goods of inferior quality or did not receive the goods banks are nowhere concerned about that as per UCP rules.