What is a Transferable Letter of Credit?

Definition and How Does it Work?

What is a Transferable Letter of Credit?

A Transferable Letter of Credit is a letter of credit facility where the first beneficiary can transfer some or all of the credit to another party, known as the second beneficiary. This type of letter of credit gives the seller/exporter the authority to instruct the bank to pay or make the credit available completely or partly to one or more secondary beneficiaries.

Transferable Letter of Credit Definition

Let’s understand the meaning of Transferable LC in simple words A transferable letter of credit is a trade finance instrument that allows the first or original beneficiary to transfer some or all the right of payment to another party, which creates a second beneficiary

The party that initially accepts the transferable letter of credit issued by the importer’s bank is referred to as the first, or primary beneficiary. A transferable LC is often used in international trade transactions to ensure timely payment to the supplier or manufacturer.

Key Takeaways:

● The ultimate agenda of a transferable Letter of credit is to enable the original or initial beneficiary to transfer the right of payment to another beneficiary which they owe.

● The first beneficiary is authorized to transfer part or all of the right of payment to a second beneficiary.

● Since applying for a letter of credit is a much more detailed process and can lead to payment delays and additional fees, issuance of a transferable LC ensures sound cash flow for third-party manufacturers.

● The parties involved in a transferable letter of credit, in addition to the bank, include the applicant (the buyer of goods/service), the first beneficiary (A retailer or broker), and the second beneficiary (A supplier or manufacturer).

How Does a Transferable Letter of Credit Work?

As we know that a letter of credit is a legal document issued by a bank, guaranteeing that a seller will receive the payment from a buyer on time for delivered goods or services. If the buyer fails to do so, the issuing bank will compensate the seller.

When you apply for a transferable LOC, it should be strictly mentioned as such by the issuing bank. By obtaining a transferable letter of credit, the first beneficiary is capable of transferring an LC to another, who then is known as the second beneficiary.

Once named as a second beneficiary, it possesses all the same rights as the original does The original beneficiary then can request the bank to transfer a part or all the credit to the second beneficiary

This second beneficiary might, for example, be a supplier or manufacturer that the seller is relying on to send the ordered goods to the buyer. In this type of arrangement, the first beneficiary is acting as a sort of middleman between the buyer and the third-party supplier. Thereby, there can be more than one secondary beneficiary.

In an LC agreement, a seller (first beneficiary) has a sale to execute with the buyer but is unable to complete the merchandise order from the manufacturer. By transferring a portion of transferable letters of credit to the manufacturer, ie. third-party supplier, the seller provides them an assurance of payment by leveraging the buyer’s banker’s credit and utilizes this LC to purchase those goods on time.