A Primer to Drafting and Reviewing Letters of Credit-part Ii
| Publication year | 1986 |
| Pages | 1941 |
1986, November, Pg. 1941. A Primer to Drafting and Reviewing Letters of Credit-Part II
Beat U. Steiner, Denver, is with the firm of Davis, Graham & Stubbs, specializing in real estate and banking matters.
The first part of this article dealt with the basic provisions of a letter of credit.(fn1) Part II deals with provisions that are not legally necessary but are customarily found in letters of credit, including the name of the account party, a number, a statement of governing law and the "engagement" clause. This part also discusses certain optional provisions relating to transferability, notation, renewal, confirmation and special conditions.
Letters of credit often state that they have been issued "for the account of" the party requesting the issuance, the bank's customer. However, because of the "independence principle,"(fn2) the account party is not a party to the letter of credit, and a recitation of the name of the account party, although customary, is not necessary.
The account party's relationship with the beneficiary does not directly affect the obligations running between the issuer and the beneficiary under the letter of credit. The obligations of the account party and the issuer should be embodied in the application for the credit and the reimbursement agreement. They should never appear in the letter of credit.
Whether or not embodied in a written agreement, the account party has an implied-by-law obligation to reimburse the issuer if the issuer makes payment under a letter of credit issued at its request.(fn3) The duties of the issuer to the account party are also implied by law. They include the duty to pay in accordance with the terms of the credit upon a proper demand by the beneficiary.(fn4)
When they issue letters of credit, banks customarily obtain from the account party a signed application, a reimbursement agreement and a promissory note in the amount of the credit. The application specifies the terms and conditions of the credit and documents the account party's request to issue the credit and its consent to the form of the credit. The account party and the issuer should always be in complete agreement with respect to the form of the letter of credit to avoid any dispute over the terms of payment. It is advisable to make the form of the credit an exhibit to the application.
The reimbursement agreement specifies the terms of repayment when the bank honors drafts drawn under the letter of credit. The promissory note, which is not strictly necessary, evidences the funds advanced under the credit. The promissory note, if used, should refer to a promise to pay funds "to the extent advanced" under the credit, unless the account party unreservedly trusts the issuer with a live negotiable note.
The reimbursement agreement should specify when the issuer is to be put in funds, which may be before the anticipated draw date, within a specified time after or "on demand." In the absence of such a provision, the Uniform Commercial Code ("UCC") provides that the issuer is entitled to funds "immediately" upon honoring a draft or, if a time draft drawn under the credit has been accepted, the day before maturity of the acceptance.(fn5) The Uniform Customs and Practice for Documentary Credits ("UCP") does not specify a time limit.
The reimbursement agreement usually will contain the same covenants found in the bank's standard commercial loan agreement and may provide for the posting of security for the reimbursement obligation. In addition, such an agreement probably will contain an indemnification of the issuer for actions arising out of the letter of credit transaction, as well as certain disclaimers of liability, particularly with respect to issues arising out of the underlying account party-beneficiary contract. It also will provide for reimbursement even if certain events
occur or actions are taken in connection with the letter of credit which might otherwise affect the account party's obligation to repay.(fn6) These latter provisions should not permit the issuer to take unilateral action with respect to the letter of credit, but should protect the issuer from loss where circumstances exist of which the issuer has no knowledge, such as fraud or forgery in the drawing process.
If the credit is transferable or renewable, the reimbursement agreement should anticipate transfer or renewal and provide for appropriate notices to and consents from the account party with respect to these events.
Letters of credit issued by banks are customarily numbered, and the terms of the credit usually provide that drafts drawn under the credit mention the number. The strict compliance rule imposed on issuers in honoring letters of credit makes mention of the proper letter of credit number an absolute requirement to obtain payment under the credit.
In international banking and trade circles, letters of credit usually stipulate that they are governed by the UCP. In the United States, letters of credit are automatically governed by the UCC, Article 5, which has been adopted in all states and the District of Columbia. In domestic letters of credit that stipulate they are governed by the UCP, the...
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