SHIPPING GUARANTEES AND OVERDRAWN DISCREPANCY

QUESTION

Dear Mr. Old Man,

Please give your comments for the below case:

At the request and for account of the applicant, we issued an LC for an amount not exceeding USD 500,000.

As the cargo had arrived before the documents were presented to our bank, at the request of the applicant we issued a shipping guarantee in favour of the shipping company to enable the applicant to take delivery of the goods without originals bill of lading.

Now  the documents have been presented to our bank. However, the invoice amount, which is also the claimed amount is USD 600,000.

Are we obliged to take up the documents and pay the claimed amount including overdrawn amount or just LC amount?

Thank you for your comment.

Best regards

T.H

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ANSWER

Hi,

As far as I remember, this issue was raised at the ICC meeting a long time ago and there were divided opinions.  Some supported the view that the issuing bank was obliged to take up the documents irrespective of discrepancies including “overdrawn” while some others had opposing views.

It is a common practice that when agreeing to issue a shipping guarantee to enable the applicant to take delivery of the goods without submitting original bill(s) of lading, the issuing bank would request the applicant to undertake to pay or accept to pay and take up the documents even when they contain discrepancies.  It is also a common practice that the issuing bank would pay upon receipt of the documents even without the need to check the documents to determine whether they comply with the LC terms and conditions.

However, there are cases where the issuing bank may face unpredicted risks as in your case, i.e., the claimed amount  exceeding the LC amount (overdrawn), especially when the applicant does not have enough financial capacity to pay or refuses to pay the overdrawn amount or when the applicant and the beneficiary collude to defraud the issuing bank by falsely raising the invoice value higher than the LC value.

Example of collusion between the applicant and the beneficiary:

Step 1: The applicant requests the issuing bank to issue an LC and he deposits 100% of the LC value to cover the payment under the LC.

Step 2:  With the reason that the documents have not been presented to the issuing bank but the goods have arrived at the port, the applicant requests the issuing bank to issue a shipping guarantee to enable him to take delivery of the goods without presenting the original  bill of lading.

Step 3: After taking delivery of the goods, the applicant sells the goods and disappears.

Step 4: The beneficiary who colludes with the applicant presents the documents including an invoice with an amount higher than the LC value and claimed the issuing bank to pay such amount.

Step 5: If the issuing bank refuses to pay, the beneficiary will request the return of the documents and sue the shipping company for delivering the goods with original bills of lading. Accordingly, the shipping company will request the issuing bank to fulfill its obligations under the shipping guarantee which may cost much more than the LC value.

In most cases, the issuing bank has no choice but to pay the LC.

To mitigate risks of this kind, the issuing bank should agree to issue a shipping guarantee only when the following conditions are satisfied:

• The applicant is a creditworthy customer who is willing to commit to accept all discrepancies including “overdrawn” and can pay or reimburse the issuing bank the amount that it has paid (including the overdrawn amount).
• The beneficiary is a trusted partner and has a long – term trading relationship with the applicant.
• Checking information on the copies of bill of lading and invoice to ensure that the quantity of goods and the invoice amount comply with the LC requirements.

Upon receipt of the original documents from the presenter, the issuing bank should check the documents and give a notice of refusal if the documents contain discrepancies including overdrawn if any and advise the applicant of the same.

If the applicant agrees to pay and deposits sufficient funds to pay the overdrawn amount, the issuing bank makes payment to the presenter.

If the applicant refuses to pay the overdrawn amount due to fraud by the beneficiary (the beneficiary intentionally increased the value of the invoice compared to the previously provided copy of invoice), the issuing bank should request the applicant to apply for the court injunction that stops the issuing bank from payment

If there is a collusion between the applicant and the beneficiary, the issuing bank should seek the protection of the court.

Whether the issuing bank must pay the shipping company under the shipping guarantee when there is fraud involved is a matter of local law.

Do as advised. If this is a real case, keep me informed of the progression.

Best regards,

Mr. Old Man

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