Difference Between a Letter of Credit & Export Trade Credit Insurance

June 24, 2022

Many international traders are unsure about the best way to safeguard their businesses from bad debts. Export credit insurance and letters of credit may be some of the most viable options. Both ensure you minimise debt risks and receive payments on time, according to the agreement between you and the other trader. Below is everything you need to know about the letter of credit and export credit insurance.

What is a Letter of Credit?

A letter of credit is an excellent way to ensure your buyers pay you when you ship goods and services. It is a commitment by a financial institution to pay you on behalf of the debtor or importer.

Usually, the exporter requires the importer to have a letter of credit, mainly if the buyer is likely to fail to make the payment as per the agreement. A typical commercial letter of credit value is up to 3% of the transaction.

It is essential to note that the issuing bank will only pay you if the delivery meets the conditions set. Some of these conditions may include quality of goods and on-time delivery. The best thing is that the Australian banks can back your letter of credit to ensure you have peace of mind knowing your accounts receivable are protected.

This method can be cumbersome, time-consuming, and expensive in the modern digital world. Buyers must obtain a letter of credit from their banks before a shipment. Even the most insignificant letter of credit error can cause the financial institution to fail to issue payment after delivery. For these reasons, a buyer who is used to terms that allow them to pay for the goods after delivery may resist using a letter of credit.

How does Export Credit Insurance Works?

An export credit insurance is a form of policy that protects business’ accounts receivable from unpaid debts. It is also called accounts receivable, debtor, or trade credit insurance.

With trade credit insurance, you will be guaranteed that all invoices you send to your customers are paid even when the debtor goes bankrupt or is affected by political risks. Depending on the agreement with your insurer, you can insure multiple accounts, a single customer, or a single invoice.

If a customer fails to respond to you or fails to complete the payment due to bankruptcy or any other reason, your insurer will indemnify you up to your coverage limits. Typically, you will receive 85-100% of your export insurance policy’s transaction. It is essential to note that some insurance companies have the discretion to limit your transaction amounts. This means that your insurance might verify buyers’ credibility and credit worthiness.

The decision to use letters of credit or export credit insurance depends on various factors. A letter of credit may be an excellent way to establish and develop a relationship with a new customer. On the other hand, export credit insurance may be appropriate if you want to recover the defaulted payment without involving the buyer or their bank.

Contact Niche Trade Credit Today for Assistance

If you’re still unsure whether to choose a letter of credit or export credit insurance, the team at Niche Trade Credit will offer the quality advice you need. We’re also ready to guarantee cash flow and help you grow your customer base with our trade credit insurance products.

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