How does a letter of credit actually work when I'm importing goods from an overseas supplier?

A letter of credit (LC) is a bank-issued guarantee that the exporter will be paid once they present shipping documents matching the terms you and the seller agreed upon. You apply for the LC through your issuing bank, which sends it to the exporter's bank; the seller ships the goods, presents the required documents, and receives payment — provided every document complies with the LC terms.

What documents will the exporter typically need to present under a letter of credit?

Commonly required documents include a signed commercial invoice, a full set of clean bills of lading or airway bills, a packing list, a certificate of origin, an insurance policy or certificate, and any inspection, phytosanitary, or quality certificates specified in the LC. Exact requirements vary by transaction and should always be reviewed with your bank before issuance.

What are the main pros and cons of using a letter of credit compared to Telegraphic Transfer (TT)?

LCs provide strong payment security because funds release only against compliant shipping documents, protecting you against non-shipment and giving the seller confidence — but they involve bank issuance fees, longer processing times, and the risk of discrepancies that can delay or block payment. TT (wire transfer) is faster, cheaper, and simpler, but typically requires you to pay before or shortly after shipment with no documentary protection, making it better suited to trusted repeat suppliers.

What is a Letter of Credit? A Guide for Importers

A Letter of Credit (L/C) is a bank-issued guarantee that pays the seller once they present documents proving the goods were shipped as agreed. For handicraft importers working with new or distant suppliers, it shifts the risk of non-payment from the exporter to the buyer’s bank, making it one of the safest—but also one of the most paperwork-heavy—payment methods in international trade.

How a Letter of Credit Works

The mechanic is straightforward in principle. After buyer and seller agree on terms, the buyer’s bank issues the L/C in the seller’s favor. The seller then ships the goods, gathers the documents specified in the L/C (invoice, bill of lading, packing list, and so on), and presents them to their own bank. If the documents comply with the L/C on their face, the seller’s bank pays them, and the buyer’s bank reimburses that bank. The buyer gets the documents, claims the goods, and the transaction is complete.

The single most important rule: banks pay on documents, not on the actual quality or condition of the goods. If the paperwork is clean and consistent, the bank pays—even if the shipment turns out to be defective. This is why the discipline of L/C documents matters so much. The standard rulebook banks follow is UCP 600, published by the International Chamber of Commerce (ICC).

Key Parties Involved

Applicant (buyer/importer): the party who requests the bank to issue the L/C.
Issuing bank: the buyer’s bank, which guarantees payment.
Beneficiary (exporter): the seller who will receive payment upon presentation of compliant documents.
Advising bank: usually a bank in the seller’s country that authenticates and delivers the L/C to the beneficiary.
Negotiating/presenting bank: the bank that receives the documents from the seller, checks them, and pays.
Confirming bank (optional): a second bank, often in the seller’s country, that adds its own guarantee of payment. Useful when the buyer’s bank is in a country the seller does not fully trust.

Documents Commonly Required

The list is set by the buyer and seller when negotiating the L/C, but for a typical handicraft shipment you can expect:

Signed commercial invoice
Full set (3/3) of clean, on-board ocean bills of lading, made out to the order of the issuing bank
Packing list with carton dimensions and weights
Certificate of origin (often required for duty preference schemes)
Fumigation or phytosanitary certificate (frequently required for natural-fiber goods such as jute, rattan, or wooden items)
Insurance policy or certificate for the full CIF value plus 10%
Inspection certificate from a third-party agency (SGS, Bureau Veritas, Intertek) if quality is critical
Beneficiary’s certificate confirming that one full set of non-negotiable documents was sent to the applicant within X days of shipment

Any discrepancy—wrong port, missing signature, late presentation—can give the issuing bank grounds to refuse payment.

L/C vs. Telegraphic Transfer (TT)

When an L/C makes sense

The buyer is new to the supplier, or the relationship is still trust-building.
The order size is large enough to justify the bank fees.
The seller’s country has political, currency, or contract-enforcement risk.
The buyer needs to lock in specific shipping documents (insurance, inspection).

When TT is usually better

Repeat orders with a trusted, audited supplier.
Smaller shipments where L/C fees and extra banking time would erode margin.
Time-sensitive goods where L/C document preparation would delay dispatch.

Trade-offs at a glance

L/C cost: opening commission, advising and negotiation fees, and sometimes a cash margin or collateral on the issuing bank’s funds. These can add meaningfully to landed cost.
L/C speed: documents typically take several business days to be examined after presentation, plus the issuing bank’s reimbursement window.
TT cost: usually a flat wire fee per transfer, sometimes free in major currencies.
TT speed: same day or next business day.

Worked Example: A Rattan Furniture Order

A U.S. importer places an USD 80,000 order for rattan chairs with a new Vietnamese manufacturer. Both sides agree on a 30% TT deposit and a 70% balance payable by irrevocable L/C at sight.

The importer’s bank in California issues the L/C through its correspondent in Ho Chi Minh City (the advising bank).
The factory produces, packs, and ships. The freight forwarder issues a clean on-board bill of lading.
The factory presents the invoice, packing list, B/L, and fumigation certificate to the advising bank.
The advising bank checks the documents, finds them compliant, and pays the factory within the agreed timeline.
The advising bank sends the documents to the issuing bank for reimbursement.
The importer receives the documents, clears the goods through U.S. Customs, and repays the issuing bank per the credit terms.

If the L/C requires a “shipment not later than 15 March” clause and the B/L is dated 18 March, payment can be refused even if everything else is fine. This is the kind of trap that catches first-time users.

Pre-Issuance Checklist for the Importer

Confirm the exact document list with the supplier in writing before the bank drafts the L/C.
Decide on the latest UCP 600 revision and the applicable Incoterms (CIF, FOB, etc.).
Clarify the latest shipment date and presentation period (commonly 21 days after the B/L date if not specified otherwise).
Specify whether a confirming bank is needed.
Check whether the destination country requires special certificates of origin, wood markings, or compliance labels—verify current requirements with your national customs authority, as rules and thresholds change.
Budget for total bank fees, not just the opening commission.
Agree with the supplier on a tolerance for quantity and value (for example, plus or minus 10%).

Bottom Line

A Letter of Credit is the right tool when the relationship, the country risk, or the order size justifies the extra cost and paperwork—typically a first large shipment, a new supplier, or a higher-risk origin. For trusted, repeat business, a Telegraphic Transfer is faster, cheaper, and simpler. Most handicraft importers use both, matching the payment method to the risk of each order rather than applying one rule across the catalog.