Confirmation with a Side Agreement? And When the Confirming Bank Doubles as Reimbursing Bank!

Intro

 Our friend Thomas from a Korean bank brought up two rather unusual LC situations that would make even the most seasoned trade finance professional pause for a sip of coffee.

 In the first, the confirming bank adds its confirmation but signs a side agreement with the beneficiary — allowing recourse if the issuing bank refuses payment due to discrepancies. Sounds cautious, but is that still true “confirmation” under UCP 600?

 In the second, the confirming bank also plays the role of reimbursing bank, yet the documents never reach it — they go straight to the issuing bank. So, is it really acting as a reimbursing bank in that case? And should the negotiating bank certify that the documents are complying when claiming reimbursement?

 Mr. Old Man takes a closer look at both practices — where confirmation meets reimbursement, and prudence meets practicality.

QUESTION

Dear Mr. Old Man,

At present, when we confirm an LC, we have a side agreement with the beneficiary allowing us to exercise recourse if payment is not forthcoming from the issuing bank due to discrepancies. If the issuing bank refuses to pay after we have paid the beneficiary as confirming bank, we would otherwise have no means to recover payment from the issuing bank. Thus, the side agreement provides us recourse to the beneficiary.

Our LC confirmation covers only the credit risk of the issuing bank but not the documentary risk (i.e., discrepancies). This is contrary to the regular confirmation procedure under UCP 600.

Recently, we negotiated an LC confirmed by a bank in London and issued by its branch in Africa. The negotiating bank was instructed to claim reimbursement on the confirming bank while sending the documents directly to the issuing bank.

In this case, the confirming bank is not presented with the documents and thus does not face any documentary risk. The confirming bank gives assurance to the beneficiary by confirming the LC issued by its African branch but does not actually examine the documents or make payment directly to the beneficiary.

This also differs from regular confirmation practice, where the confirming bank examines the documents and makes payment.

What are your thoughts on these two kinds of confirmation practice?

If your bank confirms an LC, how do you handle the documentary risk — i.e., when the issuing bank refuses payment based on a discrepancy even though you have paid the beneficiary under complying documents?

Best regards,

Thomas

________

ANSWER

Dear Thomas,

Let me address your two situations in turn.

1. Confirmation with a side agreement limiting risk

Regarding your practice of confirming an LC but entering into a side agreement with the beneficiary that allows recourse if the issuing bank refuses to honour due to discrepancies — such an arrangement is possible, provided the beneficiary explicitly agrees.

However, it departs from the regular meaning of confirmation and the confirming bank’s undertaking under UCP 600, which provides that the confirming bank must honour or negotiate upon a complying presentation — without recourse to the beneficiary.

A prudent beneficiary would therefore be reluctant to accept such a limited form of confirmation, especially where the issuing bank is located in an economically or politically unstable country and may refuse to honour based on unjustified discrepancies.

It is advisable that such side agreements be used only in silent confirmations (where the issuing bank has not authorized the advising bank to add its confirmation).

In our case, we only add confirmation — including silent confirmation — when the following conditions are met:

• The LC is issued by a reputable bank with an established credit line with us, or secured by cash collateral.
• The LC is available with our bank and allows TTR (telegraphic transfer reimbursement), or permits us to debit the issuing bank’s account.
• The LC terms and documentary requirements are straightforward and easy to comply with.
• …

After all, an LC is meant to be an instrument of payment, not an instrument of refusal. In practice, more than 99% of discrepant presentations are eventually paid.

That said, we remain prudent in our LC confirmation business.

2. Documents not presented to the confirming bank; confirming bank also named as reimbursing bank

In the case you mentioned — where the LC is confirmed by a London bank but issued by its African branch, and the negotiating bank is instructed to claim reimbursement from the confirming bank while forwarding the documents to the issuing bank — it is important to clarify that the confirming bank is not acting as a reimbursing bank in the UCP 600 sense, even though operationally it performs a reimbursement-like function.

The confirming bank’s obligation arises under Article 8 of UCP 600 — that is, an independent undertaking to honour a complying presentation — whereas a reimbursing bank acts solely as the issuing bank’s reimbursement agent under Article 13, bound only by the issuing bank’s reimbursement authorization.

(Of course, a reimbursing bank may not effect reimbursement for whatever reason unless it has issued an IRU.)

When a claim is made on the confirming bank, payment is effected under its own confirmation undertaking — not as reimbursement on behalf of the issuing bank.

Since the confirming bank does not itself examine the documents, the claim to it should include the negotiating bank’s certification that the documents are complying. This certification serves as the basis for the confirming bank to honour its independent obligation.

In short:

Although this practice is uncommon, the fact that a bank plays a dual role — both confirming bank and reimbursing bank — is actually more secure for the negotiating bank and the beneficiary than if it acted purely as a reimbursing bank.

I consider this type of confirmation acceptable.

Best regards,

Mr. Old Man