When Transferred LC Errors Threaten Payment: Who Bears the Risk?

Intro:

In trade finance, mistakes by a transferring bank can create tricky situations for the second beneficiary. A common issue arises when an insurance requirement under a transferred LC is incorrectly stated, potentially putting payment at risk. Let’s look at a practical example and clarify who is responsible.

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QUESTION

Dear Mr. Old Man,

Consider the following scenario:

• The agreed Incoterm between the applicant and the first beneficiary is CIF, and the original LC requires an insurance certificate for 110% of the invoice value.
• The LC is transferred to a second beneficiary. However, the transferring bank simply mirrors the original LC requirement without adjusting the insurance percentage.
• As a result, the insurance cover issued by the second beneficiary is compliant with the transferred LC but under-insured under the original LC.

In this situation, if the issuing bank refuses to honour the documents due to underinsurance, can the second beneficiary hold the transferring bank liable, given that they complied with the requirements as transferred to them?

Thank you.

Bill

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ANSWER

Dear Bill,

Thank you for your question.

Under a transferred LC, the transferring bank undertakes to pay the second beneficiary upon receipt of proceeds from the original LC.

If the transferring bank makes an error—such as incorrectly mirroring the insurance requirement—and this results in documents that do not comply with the original LC, the issuing bank may refuse to honour. In such cases:

• The second beneficiary is protected because they complied with the requirements of the transferred LC.
• The transferring bank bears the risk for its mistake.
• This situation is not governed by UCP 600, as it is a matter of contractual liability between the second beneficiary and the transferring bank.
• If the parties cannot reach an agreement, legal action may be required to resolve the dispute.

Conclusion:

The second beneficiary should not be penalized for complying with the transferred LC. The transferring bank is liable for any resulting non-payment caused by its error.

Best regards,

Mr. Old Man