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How does a letter of credit operate?

(1) The seller and buyer agree in their sales contract that payment will be made using a letter of credit.

 (2) The buyer instructs his bank to open a credit in favour of the seller, and that bank sends the letter of credit to the seller’s nominated bank. (3) The seller ships the goods, obtains the documents required by the letter of credit and presents them to his bank, which checks the documents for compliance with the letter of credit before making payment. (4) The documents are passed to the buyer’s bank (in return for payment), which debits the buyer’s account before passing the documents to him.

 

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