International transactions are associated with risks, and there exist different instruments which help make them more secure. Letters of credit and bank guarantees are widespread methods of risk mitigation, and we are going to look at the difference between them and the possibility of acquiring them in offshore banks.
Letters of Credit and Bank Guarantees: Comparison
How can we define a bank guarantee? This is a guarantee provided by the bank in the name of its client (who operates the account) to the beneficiary (for example, the supplier) to secure payment in case of default by its applicant. The amount mentioned in the guarantee will be paid to the beneficiary after he has satisfied the conditions listed in the document.
A bank guarantee is a well-known document used in public tenders/public works carried out in domestic markets. A bank fee (up to 1.5% a year) is charged if you apply for a bank guarantee.
Offshore or conventional banks can issue 2 types of bank guarantees:
- Financial Guarantee
- Performance Guarantee
In the event of default, the bank shall compensate the beneficiary with its property.
What is a letter of credit? Well, this is a financial instrument granted by the buying party to the selling party as a guarantee of payment. A simple letter of credit details a number of items/conditions to be fulfilled by the buyer and the seller to complete the transaction successfully.
The following conditions will be set out for the seller: type/quantity and condition of the products, documentary evidence, relevant shipment invoices, and so on.
As soon as all the conditions have been satisfied, the banking institution will transfer the required amount. The bank serves here as an intermediary only, as you can see.
Should the obligations not be fulfilled, compensation is paid using the funds of one of the parties.
Letters of credit types:
- Sight L/C
- Usance L/C
- Revolving L/C
- Irrevocable L/C
- Standby L/C
- Confirmed L/C
- Red Clause L/C
An L/C may cost up to 2% of the transaction price, with various payments included:
- Fee for opening a letter of credit
- Fee for closing a letter of credit
- Conversion expenses (FOREX)
And what are the criteria that make the two instruments similar? Well, they are both aimed at successful transaction conclusion and protection of the interests that each party pursues. Simultaneously, the bank guarantee ensures more favorable conditions for the beneficiary (who receives the assets), whereas the letter of credit provides equal terms.
A Letter of Credit and a Bank Guarantee from an Offshore Banking Institution: Mission Possible?
We offer our support in the process of getting a letter of credit or a bank guarantee for your offshore entity from an offshore bank. Our professionals can suggest the best financial institutions to be selected for that purpose and the right way of executing documents.
There are two conditions you will be required to fulfill:
- own a duly set up and legally operating offshore entity
- pick a reliable financial institution that renders services of this kind (simply put, it must not go bankrupt before paying for the services of your partner or yours).
Establishment and Maintenance of an Offshore Entity
You will surely need to have an offshore entity before you become eligible to acquire an offshore letter of credit or guarantee. Our experts at Offshore Pro Group offer a free selection of jurisdiction and type of entity on the basis of your requirements and free advice on a suitable bank account. The choice of a bank often determines the jurisdiction where it makes sense for you to open an account.
Selection of an Offshore Bank
As mentioned above, we will help you choose an offshore bank that is suitable for you on the basis of your business needs.
Given the peculiarities of the present-day international banking system, it is often the restrictions imposed by the banks which determine how you will conduct your business operation and what jurisdictions you will opt for. Therefore, please make sure that the bank you choose satisfies your requirements before you register an offshore company for it.
If you know that a letter of credit or a bank guarantee is an absolute must for your business endeavors, Offshore Pro Group professionals can give you a lot of tips on how to choose a bank from a wide range available that would satisfy this condition. Get in touch with us at in**@***********rt.com, and our specialists will help you pave the way from picking a bank and establishing a company to preparing documents for obtaining financial instruments: bank guarantees and letters of credit.
04 October 2022 