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Common Payment Methods

Methods of payment in international trade, ranking in order of the most favourable to the least favourable to the exporter, are cash in advance, documentary credit, documentary collection and open account.

Cash in Advance

The importer pays the exporter in full before shipment is made. This method is usually used only for small purchase or when the goods are made to order.

Chart: Cash In Advance
Chart: Cash In Advance

 

Documentary Credit (D/C)

It is an instrument issued by a bank (issuing or opening bank), at the request of the buyer, evidencing the bank's undertaking to the seller to pay a certain sum of money provided that specific requirements set out in the D/C are satisfied.

Chart: Documentary Credit
Chart: Documentary Credit

Detailed description of the steps in the above flow chart:

1. Confirm sales contract and terms of the transaction (especially payment terms).

Parties involved: exporter and importer

2. The importer approaches the issuing bank to apply for a D/C to be opened in favour of the exporter.

Parties involved: importer and issuing bank

3. If the application is approved, the issuing bank opens a D/C in favour of the exporter sending to the advising bank.

Party involved: issuing bank

4. The issuing bank, via the advising bank, advises the exporter that the D/C has been opened.

Parties involved: issuing bank and advising bank

5. The goods are shipped via the shipping company.

Party involved: exporter

6. After the goods have been shipped, the exporter should present and prepare to the issuing bank, via the collecting bank, all documents as stipulated in the D/C for payment. (It is not necessary for the exporter to present the documents via the collecting bank. In many cases, exporters may do so via other banks instead).

Parties involved: exporter and collecting bank

7. The exporter may negotiate with the advising bank (which becomes the negotiating bank) for the export bill and the accompanying documents. The negotiating bank checks the documents against the terms of the L/C (when negotiation is not needed, the negotiating bank will act as the collecting bank).

Party involved: negotiating bank

8. The negotiating bank will send the documents to the issuing bank for reimbursement of proceeds.

Party involved: negotiating bank

9. The issuing bank examines the documents submitted and pays to the negotiating bank if no discrepancy occurs.

Party involved: issuing bank

10. The issuing bank releases the documents against cash or a trust receipt, to the importer to enable the importer to collect the goods.

Party involved: issuing bank

 

Documentary Collection

When an exporter wishes to retain control of goods until payment or at least promise of payment is received, he may be paid under a documentary collection. It is one of the most common forms of international trade payment based on the use of a bill of exchange. Since banks have no checking procedures on payment through Documentary Collection, the handling charge of doing D/A or D/P through banks is cheaper than D/C. Though the possibility of going wrong is also increased.

1. Documents Against Payment (D/P)

An exporter, via the remitting bank, instructs the collecting bank to release the title right and other shipping documents, which usually include the title right to the importer subject to payment.

Chart: Documents Against Payment
Chart: Documents Against Payment

Detailed description of the steps in the above flow chart:

1. Confirm sales contract and terms of the transaction (especially payment terms).

Parties involved: exporter and importer

2. The exporter ships the goods to the importer via the shipping company.

Party involved: exporter

3. The exporter presents to the remitting bank the required documents including collection instruction, bill of exchange / draft and transport documents for payment.

Party involved: exporter

4. The remitting bank forwards the documents to its correspondent bank in the importer's country (the collecting bank).

Party involved: remitting bank

5. The collecting bank presents the documents to the importer for payment.

Party involved: collecting bank

6. Importer pays to the collecting bank to obtain the documents to collect goods.

Party involved: importer

7. The collecting bank sends the payment to the remitting bank.

Party involved: collecting bank

8. The remitting bank remits payment to the exporter, according to the collection instruction.

Party involved: remitting bank

2. Documents Against Acceptance (D/A)

An exporter, via the remitting bank, instructs the collecting bank to release the title right and other shipping documents to the importer subject to acceptance of the bill of exchange / draft by the importer. This is commonly found in trading between the same company group, contract insured under the Hong Kong Export Credit Insurance Corporation, or open account.

Chart: Documents Against Acceptance
Chart: Documents Against Acceptance

Detailed description of the steps in the above flow chart:

1. Confirm sales contract and terms of the transaction (especially payment terms).

Parties involved: exporter and importer

2. The exporter ships the goods to the importer via the shipping company.

Party involved: exporter

3. The exporter presents the documents to the remitting bank the required documents including collection instruction, bill of exchange / draft and transport documents for acceptance and payment.

Party involved: exporter

4. The remitting bank forwards the documents to its correspondent bank in the importer's country (the collecting bank).

Party involved: remitting bank

5. The collecting bank presents the documents to the importer for acceptance.

Party involved: collecting bank

6. The importer accepts the bill of exchange / draft issued from the exporter through the remitting forward to the collecting bank to obtain the documents to collect goods.

Party involved: importer

7. The collecting bank holds the draft until maturity when buyer pays and remits to the remitting bank.

Party involved: collecting bank

8. The remitting bank remits payment to the exporter.

Party involved: remitting bank

 

Open Account

The seller sends the goods directly to the buyer, transmits an invoice and other shipping documents first and bills the importer later. The credit is arranged between the buyer and seller without written guarantee for payment. Since the exporter has little evidence to oblige the buyer to pay, the payment is rather risky to the seller.

Chart: Open Account
Chart: Open Account
Content provided by Picture: HKTDC Research