Comprehensive guide to documentary credit payment methods — process, types of L/C, costs, and risks for import-export companies.
L/C (Letter of Credit) is an international payment method, especially for high-value shipments. According to statistics, about 40% of international trade transactions use L/C, with total value reaching thousands of billions of USD annually. Unlike T/T (telegraphic transfer) or D/P (documents against payment), L/C provides safety for both buyers and sellers through bank guarantees.
In this article, VTM Logistics will explain L/C from A to Z — from basic concepts, the 8-step process, common types of L/C, to costs and risks to avoid. View more Incoterms 2020 to learn about terms affecting L/C payment.
L/C Payment — a secure documentary credit method for both buyers and sellers
1. What is L/C (Letter of Credit)?
Practical Experience from VTM Logistics
When working with L/C, VTM Logistics we often advise clients to carefully check the 3 most important terms: document presentation deadline, type of L/C (irrevocable or confirmed), and payment terms. Even a small error in the document set can cause the bank to refuse payment.
An L/C (letter of credit) is a conditional payment commitment issued by the issuing bank at the request of the buyer (Applicant), under which the bank undertakes to pay the seller (Beneficiary) when a valid set of documents is presented within the stipulated time.
In other words, the bank acts as an intermediary — receiving documents from the seller, verifying their validity, and paying on behalf of the buyer. The seller is reassured because the bank guarantees payment; the buyer is reassured because the bank pays only when the documents are valid.
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Real-world example: A Vietnamese company imports a steel container from Japan, valued at $150,000. The Japanese partner requires an irrevocable L/C. A Vietnamese bank issues an L/C worth $150,000 to a correspondent bank in Japan. Once the container is loaded onto the vessel and the document set (Bill of Lading, Invoice, Packing List, C/O) is validly presented, the Japanese bank pays the exporter. The Vietnamese company then reimburses the bank and receives the document set to collect the goods.
2. Parties Involved in an L/C
L/C Applicant (Applicant): Buyer (importer) — requests the bank to issue the L/C
Issuing Bank: Buyer's bank — issues the L/C and undertakes to pay
Beneficiary: Seller (exporter) — the party that receives payment upon presentation of valid documents
Advising Bank: Bank in the seller's country — advises the L/C and verifies its authenticity
Confirming Bank: (if any) — further confirms the payment undertaking, reducing risk for the seller
3. L/C Payment Process — 8 Detailed Steps
Signing the foreign trade contract: Both parties agree on payment terms via L/C, specifying the L/C type, issuing bank, validity period, and required documents.
Buyer applies to open L/C: Submit the L/C application documents to their bank, including the foreign trade contract, L/C application form, and collateral/margin deposit.
Issuing bank issues L/C: Review the documents and issue the L/C to the advising bank in the seller's country.
Advising bank notifies L/C: Verify the authenticity of the L/C and forward it to the seller (usually takes 2-3 working days).
Seller checks L/C and delivers goods: Compare the L/C with the contract; if there are discrepancies, request amendments immediately. Then proceed with delivery and collect the document set.
Seller presents documents: Submit the document set to the advising bank (or directly to the issuing bank) within the L/C validity period.
Bank checks and pays: Check documents within 5 working days according to UCP 600. If valid — pay the seller.
Buyer receives documents and takes delivery of goods: Reimburse the issuing bank, receive the original document set, and proceed to take delivery at the port.
4. Common Types of L/C
L/C Type
Features
When to Use
Irrevocable L/C (Irrevocable L/C)
Cannot be amended or cancelled without the consent of all parties.
Most common — used in almost all L/C transactions.
Confirmed L/C (Confirmed L/C)
The Confirming Bank adds a payment undertaking.
When the seller does not trust the issuing bank in the buyer's country.
Transferable L/C (Transferable L/C)
The first beneficiary may transfer part or all of the credit to another party.
When the seller is an intermediary (trader) and does not directly manufacture the goods.
Revolving L/C (Revolving L/C)
Automatically restores the limit after each use, with no need to open a new L/C
When trading multiple shipments periodically with the same partner
Deferred Payment L/C (Deferred Payment L/C)
Payment after a specified period from the delivery date
When the buyer needs time to sell the goods before payment
Standby L/C
Only activated when the buyer fails to fulfill payment obligations
Standby guarantee for contractual obligations
5. Costs related to L/C
Fee type
Reference fee rate
Who bears it
L/C opening fee
0.1% - 0.5% of L/C value
Buyer
L/C advising fee
$20 - $50 per instance
Seller (or as agreed)
L/C amendment fee
$20 - $50 per amendment
Amendment requester
Document checking fee
$50 - $150 per set
Seller
Payment fee
0.1% - 0.2% of value
Seller
L/C confirmation fee
0.2% - 0.8% of value per year
Seller (or as agreed)
Note: The specific fees depend on the bank, the country of the issuing bank, the L/C value, and the buyer's creditworthiness. It is advisable to clearly negotiate who bears which fees from the outset of the contract.
6. Common Risks and How to Prevent Them
🔴 Risks for the Seller
L/C inconsistent with the contract: Check the L/C carefully upon receipt and request amendments before delivery.
Invalid documents (discrepancy): Even minor errors (wrong name, wrong number, missing signature) can result in payment refusal. Cross-check documents at least twice.
Country risk: Issuing bank becomes insolvent. Solution: require a confirmed L/C (Confirmed L/C)
Late presentation of documents: Exceeding the validity period or presentation deadline. Delivery schedules and document collection must be closely managed.
🔴 Risks for the Buyer
Goods not conforming to the contract: An L/C only examines documents, not the actual goods. Solution: require third-party inspection/quality certification documents.
Additional costs: L/C fees, transfer fees, amendment fees — in total, these can reach up to 1-2% of the shipment value
Risk of tied-up capital: The margin for opening an L/C is usually 10-30% of the value, and can reach up to 100% if credit is weak
7. UCP 600 — The rules governing L/C
UCP 600 (Uniform Customs and Practice for Documentary Credits) is an international set of rules issued by the International Chamber of Commerce (ICC), with the current version effective from 2007. It is the "compass" for all L/C transactions:
39 articles governing the entire L/C process
Principle of independence: The L/C is independent of the foreign trade contract — banks examine only documents, not the actual goods
Principle of strict compliance: Documents must comply strictly with the L/C (strict compliance) — even the smallest discrepancy can result in refusal of payment
Examination time: Banks have up to 5 working days to examine the documents and decide whether to accept or refuse them
8. L/C compared with other payment methods
Criteria
L/C
T/T (Telegraphic Transfer)
D/P (Collection)
Safety level
✅ Highest
❌ Low (depends on trust)
⚠️ Medium
Cost
💰 High (0.5-2% of value)
💰 Low ($20-50 per transaction)
💰 Medium
Time
⏱ 3-5 days to open L/C
⏱ 1-2 days
⏱ 2-4 days
Suitable for
New partners, high value
Trusted partners, low value
Familiar partners, medium value
Complexity
📋 High (many documents)
✅ Simple
⚠️ Medium
9. Checklist when using L/C
✅ Checklist for buyers (importers)
☐ Prepare the L/C application accurately and describe the goods clearly
☐ Clearly specify the required documents (at minimum: Invoice, Packing List, BL, C/O if needed)
☐ Negotiate who bears the L/C fees, advising fees, and document checking fees
☐ Ensure sufficient credit limit/deposit at the bank
☐ Check the documents when the bank sends them — if anything unusual, reject immediately
✅ Checklist for sellers (exporters)
☐ Check the L/C immediately upon receipt — compare each clause against the contract
☐ Request an amendment immediately if unreasonable terms are found (do not ship until amended)
☐ Prepare documents with absolute accuracy — check names, numbers, dates, and signatures
☐ Deliver the goods and present documents within the validity period
☐ Keep copies of all documents for reference when needed
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Practical Experience from VTM Logistics:
When working with L/Cs, many new businesses make mistakes at the document-checking stage. A minor error on the bill of lading can cost you money. VTM Logistics checks document sets free of charge for customers — helping you avoid common mistakes.
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These sources explain the rules discussed above. Check the current requirements for your shipment; examples on this page do not replace the applicable regulations or contract terms.
