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Market view: Are sanctions clauses undermining letters of credit?
12 January 2012
Reed Smith’s energy, trade and commodities team reviews whether the recent surge in financial sanctions and embargoes, and the resulting "sanctions clauses" in letters of credit (LCs) is challenging the fundamental nature of an LC.
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Reed Smith
letters of credit
sanction clauses
sanctions
The documentary letter of credit (LC) is a key payment method in international trade - not only does it satisfy both the seller's and the buyer's conflicting needs, but it also is considered to be relatively risk free. However, the recent surge in financial sanctions and embargoes, and the resulting "sanctions clauses" in LCs trying to meet the issue, is challenging the fundamental nature of an LC.
Sanctions against Iran, Libya, and Syria in particular have led to disputes over LC payments.
This article highlights how sanctions legislation can have the effect of diluting the payment obligation under an LC (including a standby LC), and how the risk that a bank may not pay could be mitigated by traders.
The Payment Obligation
An LC creates a payment obligation that is independent of, and completely separate from, the underlying sale contract between the seller and the buyer. This principle is clearly set...
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