What is the difference between a Bank Guarantee and a Letter of Credit?

A Letter of Credit or a Documentary Letter of Credit is a negotiable instrument and is a means of payment. A Bank Guarantee is a financial instrument and is a guarantee of payment. For information, a Standby Letter of Credit is a means of payment but can also be utilised as a guarantee of payment.

All these instruments are issued on a daily global basis. Here in Geneva, Switzerland, and in financial centers and hubs throughout the world.

A Documentary Letter of Credit

A Documentary Letter of Credit is the mainstay of international trade. It is a contract whereby a bank agrees to pay the seller regarding the export of goods. Under the terms and conditions of a Documentary Letter of Credit, the seller must present specific documents to the bank. A bank will only pay if the seller performs. Documentary Letters of Credit are utilised globally for the financing of international trade.

For information, a bank will only pay the seller under the terms and conditions of a Standby Letter of Credit if the buyer does NOT perform.

There are many documents the seller or exporter must present to their bank in order to get paid. Such documents are as follows,

  • A low ‘monthly equivalent’ interest rate compared to current short-term funding rates
  • Fast-Track turnaround (inside 15 working days)
  • High level of Lending – up to €9m or equivalent in GBP (currently over £8m)
  • No valuations required
  • No need to repay or take out existing lenders / first charge holders
  • Will consider most jurisdictions – UK, EU, non-EU, Asia, South Africa, Australia, etc
  • Flexible and bespoke underwriting criteria
  • Free quotations and illustrations
  • Free and friendly advice
  • Fully inclusive completion fees, deductible from loan proceeds
  • No need for an interview or appointment (fully automated application procedure)

Many of these documents quite often have to present in duplicate, triplicate, or quadruplicate. A Documentary Letter of Credit is only concerned with documents relating to the export of goods. It is not concerned with the actual goods themselves.

Bank Guarantees

There are two types of Bank Guarantee the financial guarantee and the performance guarantee. 

The Financial Guarantee is a legal promise to pay the beneficiary by the issuing bank if the applicant reneges on their fiduciary duty.

The Performance Guarantee is a legal promise by the issuing bank to cover any losses incurred by the beneficiary. This will occur if the applicant fails in their contractual obligations.

There are many different types of Bank Guarantees, such as a Warranty Guarantee, a Customs Guarantee, a Tender Guarantee, a Payment Guarantee and an Advance Payment Guarantee to mention but a few. However, there is one guarantee that stands out from the rest and this is the Bank Guarantee that can be monetised.

Many companies are starved of credit lines and loans and the Demand Bank Guarantee is designed to alleviate these problems. The Demand Bank Guarantee utilises precise and exact wording for monetisation purposes. It is governed by ICC Uniform Rules for Demand Guarantees, (URDG 758) and is payable upon first demand.

A company may “lease” a Demand Bank Guarantee from another company, known as a Bank Guarantee Provider. They can approach their bankers and offer up the Demand Bank Guarantee as security for a loan or line of credit. 

For more information on a Demand Bank Guarantee and the importance of ICC Uniform Rules for Demand Guarantees, (URDG 758), please visit our Bank Guarantee page.

To summarise

As can be seen from the above a Documentary Letter of Credit is the means by which exporters get paid for their goods. Documentary Letters of Credit are issued every day around the globe. Without a Documentary Letter of Credit international trade would become an extremely difficult transaction.

Bank Guarantees on the other hand basically guarantee payment if the applicant fails in their financial and contractual obligations. They may also be utilised to raise loans and lines of credit, often referred to as Credit Guarantee Facilities. 

If you are a company whose bankers keep rejecting your credit facility applications please visit our Bank Guarantee page.