UGC NET Study Notes on Modes of Payment in International Trade || Commerce || Management

By BYJU'S Exam Prep

Updated on: September 14th, 2023

There are various modes of payments in international trade. It depends upon the terms of credit extended by the exporter, the sales contract, the terms of the sale etc. The sales contract between the exporter and the importer will clearly specify the mode of payment and the credit period available. The major modes of settlement in international trade are:

  1. Cash-in-Advance
  • In this method, the payment is collected before the shipment of goods., ie, prior to the transfer of ownership of the goods.
  • It removes the risk of the exporter since the payment is received prior to the transfer of the goods.
  • Requiring payment in advance is the least favourable option for the buyer or the importer.
  • In certain cases, deferred payments mode is also used, in which, the importer pays a part of the price in advance, another part on receiving the shipping documents and balance on a periodical instalment basis.
  • Generally, the unpaid balance is guaranteed by the importer’s bank.
  1. Letters of Credit
  • Letters of credit are one of the most secure and most popular payment modes in export trade.
  • Letter of credit is a document from a bank guaranteeing that a seller will receive payment in full as long as certain delivery conditions have been met.
  • In the event that the buyer is unable to make payment on the purchase, the bank will cover the outstanding amount.
  • There are different kinds of letter of credit. Some of them are:
    • Clean L/C– An L/C payable upon the presentation of the draft without any supporting document being required.
    • Documentary L/C– The bill of exchange or draft must be accompanied by documents specified in the letter of credit.
    • Revocable L/C- Can be cancelled at any time by the importer or the importer’s bank without the consent of the exporter.
    • Irrevocable L/C– Cannot be cancelled or modified by the issuing bank without the express consent of the seller (or all parties concerned).
    • Confirmed L/C– An L/C is said to be confirmed when a second bank (in exporter’s country) adds its confirmation or guarantee to honour the payment or acceptance on presentation of stipulated documents at the request or authorization of the issuing bank.
    • Unconfirmed L/C– L/C which has not been guaranteed or confirmed by any bank other than the bank that issued it.
    • Back-to-Back L/C– Arrangement in which one irrevocable letter of credit serves as the collateral for another; the advising bank of the first letter of credit becomes the issuing bank of the second L/C.
    • Advance Payment/Red Clause L/C– Letter of credit that carries a provision which allows a seller to draw up to a fixed sum from the paying bank, in advance of the shipment or before presenting the prescribed documents.
    • Assignable and Nonassignable L/C- Under assignable L/C, the beneficiary may assign his rights to receive payments to another party. But in non-assignable L/C the exporter cannot transfer his rights.
  1. Documentary Collections
  • A documentary collection is a transaction whereby the exporter entrusts the collection of payment to the remitting bank (exporter’s bank), which sends documents to a collecting bank (importer’s bank), along with instructions for payment.
  • Funds are received from the importer and remitted to the exporter through the banks involved in the collection in exchange for those documents.
  • There are two modes of documentary collections:
    • Documents against payment (D/P)– The documents of ownership are to be handed over to the importer against the payment of the bill. It is also called cash against documents.
    • Documents on Acceptance (D/A)– The documents are to be handed over to the importer against acceptance of the bill.
  1. Open Account
  • An open account transaction means that the goods are shipped by the exporter without any financial documents (like letter of credit, bankers draft etc.) to his advantage.
  • The importer takes delivery and makes payments when it is due, usually in 30 to 90 days.
  • This is the most advantageous option for the importer but it is of huge risk for the exporter.
  1. Consignment Sale
  • In consignment sale, the exporter sells goods to his selling agent or representatives abroad.
  • The sale is made by the agent on behalf of the exporter.
  • The payment is made to the exporter as and when the goods are sold and the money is received by the agent.
  1. Bank Transfers
  • The importer makes payment to a local bank in home currency which arranges for payment to the payee abroad in the currency of his country, either through the branch of the local bank or a foreign bank with which the local bank has arrangements for all such payments.

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