Methods of payments in International Trade

In Trade finance where there is involvement of buyers and sellers from different regions payments to be done secure manner

Where there are new buyers or sellers without having prior relationship they tend to use banks as intermediaries for their day to day transactions

As banker/individual/consultant its very important to know different types of payments used mostly in trade finance

Here we will going through 4 primarily used payment methods

1.Open Account : In this type of payment buyer pays to seller post receiving of goods  

Example : MR A have asked customization of RR car those and RR have Customized car as per his commitment so in this example RR company have to sell car To MR A

This type of payment is more advantageous to Buyer where can validate the quality and quantity of goods and then he can settle to seller

Here seller have multiple disadvantages once goods has been shipped there is a probability of buyer not paying to seller or default of buyer as well

And for seller there will be blockage in working capital as he have to wait for payment (Other option is Working capital financing can be taking from bank) or purchase order financing as well

2.Advance payment :This is vice versa for open account wherein Buyer pays advance to seller for preparing of goods where seller is monopoly

Here Buyer might be having disadvantages as they might some defective goods or low quality goods from seller

Advance payments are common in low value orders

And there is risk of seller default in advance payment

3.Documentary Collection: Here seller (exporter) will request payment by presenting its documents to its remitting bank(Exporter bank). The remitting bank will then forward these documents to the importer’s bank. The importer’s bank will then pay the exporter’s bank, which will credit those funds to the exporter.

In Collections there will be involvement of banks to remit funds from buyer to seller but note that banks won’t defaulter risk of customer in documentary collection

And in collection banks act as an postman to transfer documents from exporter to seller and bans wont only validate documents for sanctions purpose but don’t scrutinize them.

Documentary collection flow

 

To Avoid all above risks there is one more mode payment called documentary credit

4.Letters of credit: Letters of credit are issued by banks on behalf of applicant(buyer) and in favour of Beneficiary(seller)

Banks will be taking default risk of Applicant in LC.

Once Letter of credit is issued by issuing bank(Buyer bank) it should pay to beneficiary even if buyer defaults

Beneficiary will receive funds only when documents are as per LC terms and conditions and should bind with applicable rules and regulations

Buyer will get quality of goods and seller will get payment on time as per LC terms

To avoid country risk there is option of confirmation in LC

 

Process flow of LC

We have many payment varieties in trade finance but above is important

1.Working capital financing

2.Supply chain financing (Receivable financing, Payables financing)

3.Export Factoring etc

 

But there are multiple Risks which are involved international trade which will be discussed in next post

Note: This blog is per knowledge purpose do not use for conflict management or any other purpose