Question

(b) Demonstrate modes of operation for Letter of Credit-i based on Wakalah concept.

Answer 1

Letter of Credit is basically a kind of Bank gurantee that the buyer will make the payment to the seller on receipt of goods. In case where the buyer fails to do so, bank shall be liable to cover it.

Letter of Credit plays an important role in International Trade. The Bank acts as an agent (Purchasing agent) on behalf of the buyer. The Buyer deposits full amount of Goods Purchase, the bank establishes Letter of Credit and remitt payment to buyer.

When using wakalah concept, the Bank charges a fee and hence the letter of credit in this case is treated as fee based banking service rather than gurantee.

Modes of Operation for Letter of Credit based on Wakalah Concept -

Bank acts as an Agent

The bank acts as the agent of the importer. The Client authorise the Bank to acts on his behalf and represent him in issuing the letter of Credit and further operations.

Deposit made by Importer with Bank

The importer deposits with the bank the full amount of the L/C.The bank opens the L/C.

Opening of L/C Account

The Client informs Bank to Open L/C Account and authorises it to act on his behalf.The bank issues the LC according to the instructions and the advice of its client and according to the terms and conditions agreed upon as found in documents confirming the sale provided by the client

Fee charged by the Bank

The bank charges a fee/commission for its services provided to the Importer. Bank receives fee for acting on behalf of his client, issuing L/C, and checking the compliance of documents received from the exporter as per agreement.

Payment to Exporter

After the shipment of goods and submission of required documents by the exporter, the bank makes payment using the importer's deposit according the terns and conditions of L/C.