Methods of Payment


Methods of Payment in International Trade

There are five primary methods of payment for international trade transactions. You should consider the method which is mutually desirable for you and your customer. In this regard you can identify suitable payment option by recognizing the risks and advantages of various payment options.

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Methods of Payment in International Trade

  • Cash in Advance
  • Letter of Credit
  • Documentary collection
  • Open account
  • Consignment

Cash in Advance

The Cash in Advance or Advance Payment method allows the buyer to pay cash in advance to the seller prior to shipment of goods. Paying in advance gives the greatest protection for the seller and puts the risk on the buyer. Read more >>

Letter of Credit

Letter of Credit (LC) is a commitment by a bank on behalf of the buyer that payment will be made to the exporter, provided that the terms and conditions stated in the LC have been met, as verified through the presentation of all required documents. The buyer establishes credit and pays his or her bank to render this service.

It is a written undertaking by bank (Issuing Bank) on behalf of the importer (Buyer), promising to pay the exporter (Seller) up to a stated sum of money, provided that the exporter conforms to the product specifications and document requirements of the importer. Read more >>

Documentary Collection

Documentary Collection (D/C) is a trade transaction in which payment is received from the importer and remitted to the exporter through the banks involved in the collection in exchange for the draft (bill of exchange) and other documents.

Documentary Collection involve using a draft that requires the importer to pay the face amount either at sight (document against payment) or on a specified date (document against acceptance). The draft gives instructions that specify the documents required for the transfer of title to the goods.

The draft is an unconditional order to make a payment in accordance with certain terms.

Open Account

An open account transaction is a sale where the goods are shipped and delivered before payment is due, which is usually in 30, 60 or 90 days. Obviously, this is one of the most advantageous options to the importer in terms of cash flow and cost, but it is consequently one of the highest risk options for an exporter.

Consignment

Consignment in international trade is a variation of open account in which payment is sent to the exporter only after the goods have been sold by the foreign distributor to the end customer. An international consignment transaction is based on a contractual arrangement in which the foreign distributor receives, manages, and sells the goods for the exporter who retains title to the goods until they are sold.

COMPARISON TABLE – Method of Payments in International TradeMethod

Time of Payment

Goods Available To Buyer

Risk To Seller

Risk to Buyer

CASH IN ADVANCE

Before Shipment After payment None if funds are “good” or collected & available in the seller’s bank account Relies completely on seller to ship the proper goods; assumes the political and economic risks.

LETTER OF CREDIT

1. LC at Sight

Upon presentation of Conforming documents to the negotiating bank. After payment unless directly consigned to the buyer (seller surrenders possession). Very little or none, depending on terms of the letter of credit. Relatively low in terms of whether shipment has been made. Relies completely on the seller to ship goods described in  documents.

2. LC Usance

After shipment presentation of required documents, and bank’s acceptance of draft due on specified date. Draft may or may not be discountable. Usually after the bank’s promise to pay is established, but before payment. Very little or none, depending on terms of the letter of credit. Relatively low in terms of whether shipment has been made. Relies completely on seller to ship goods described in documents.

DOCUMENTARY COLLECTION

1. Documents against Payment

Usually soon after the local bank notifies the buyer of receipt of documents. After payment, unless directly consigned to the buyer (seller  surrenders possession). Many risks such as buyers integrity and standing and political and economic instability. Relatively low in terms of whether shipment has been made. Relies completely on seller to ship goods described unless the buyer is allowed to inspect goods before payment (rare).

2. Documents against Acceptance

Expected on the maturity date of the draft. Before payment, but after the buyer accepts the draft. Reliance on the buyer to pay the draft when due. Other risks are the same as for a sight draft,  except the goods have already been released. Relatively low in terms of whether shipment has been made. Relies completely on seller to ship goods described unless the buyer is allowed to inspect goods before payment (rare).

OPEN ACCOUNT

As agreed Before payment Seller relies completely on the buyer to pay the account as agreed. Political and economic risks. None

CONSIGNMENT

After Shipment Before Payment Seller relies on the buyer to pay after the goods are sold. None