payment instruments

Understand the payment instruments

There is no Free lunch in the corporate world, but a brutal circle of payments. A client cannot purchase “something for nothing,” and businesses are all about the circulation of payments. One owner pays for the services of his employees and the materials by vendors. The vendor makes that payment to another business entity, so on and so forth. Thus, the sweet round of economics is all paid up in a vicious ring.

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There are different types of payment instruments used by entrepreneurs, where some are incredibly modern ways like “cryptocurrency”. Since not all organizations are comfortable with this digital currency, we will be sharing old-school or rather classic payment instruments currently in practice. There are specific financial instruments, for example, letters of credit and bill of exchange, etc., and we will discuss those in detail.

The letter of credit

If we simply define the term, it is a document issued by a banking institution to a different bank. It is a documentary credit that is widely utilized in international trade to an exporter. The trustworthy bank provides a guarantee in order to pursue the trade business smoothly. LC assures an exporter that the buyer’s payment will be cleared on time and for the exact amount. If the seller finds out the payment is not made due to buyer’s inability, the bank will remain liable to clear the amount to the trader.

Telegraphic Transfer

TT is a medium of foreign remittance, which pays the funds via telegraphic transfers. It is basically a bank transfer in the electronic form from buyer to the seller through a bank. It is a relatively old process used by traders and has changed into an open account method in many countries. A trader in Egypt, for instance, pays his local bank and they will send a fax to their foreign branch or affiliate to clear the payments on a mentioned date. The exchange rate is quite suitable in the T/T way.

Payments against documents

Also known as Cash against Documents CAD, This payment term involves the Exporter instructing the bank to hand over the necessary documents to the importer after dues are cleared. CAD is used when the buyer completely pays the attached bank draft or bill of exchange. This method is easier for both sides of the trade and less expensive than a letter of credit. Document against payment or DAP sees clear instructions to the bank about dispatching those documents only when the importer clears the whole amount.

Clean Foreign Bill of Exchange

A foreign bill of exchange is a standard payment method in the import and export industry when there is established trust between both parties. Usually, trading business involves repetitive business with the same buyer or seller, and there is no risk involved in the transaction. If both accept the creditworthiness of each other, the Exporter prepares this document and sends it to the commercial bank in the buyer’s territory. The relevant documents are also sent with the payment. The importer will ultimately withdraw this financial instrument with ease.

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