Payment Terms For Exporters

There are four general terms of payment extended to a company selling goods overseas. Ranked by preference of the exporter from the least to the most risk, Cash in Advance, Letters of Credit, Documentary Collections and Open Account.

Cash in Advance

Cash in advance terms represent the least risk to the exporter, and are typically used in new relationships where transactions are small and the buyer has little flexibility but to prepay. Since there is no guarantee that the goods will be shipped, the buyer needs to feel comfortable in the seller’s ability and willingness to ship after payment has already been effected.

Advantages to Exporter

• No risk
• Immediate use of funds

Disadvantages to Exporter

• May require issuance of down payment guarantee or standby letter of credit
• Buyer may expect price discount

Documentary Letters of Credit

Letters of credit are the legal financial instruments most frequently used to guarantee payment for goods and services imported and exported. Because they mitigate the financial risks of doing business in unfamiliar economies, letters of credit also facilitate international sales.

A letter of credit is issued by the buyer’s bank, advised through a bank in the sellers’ country (in most cases, the seller’s bank), then forwarded to the seller by the advising bank. The letter specifies the terms and conditions that must be met before payment is rendered. The letter of credit process has been standardized by a set of rules published by the International Chamber of Commerce. These rules are referred to as the Uniform Customs and Practice for Documentary Credit (UCP) and are currently listed in ICC Publication No. 500.

Advantages to Exporter

• Reasonable assurance of payment
• Prompt payment
• Possible financing availability

Disadvantages to Exporter

• Strict compliance is required
• More cumbersome
• More expensive than other methods of payment

Documentary Collections

Documentary collection terms are widely used in the purchase and sale of goods and services in international markets. The transaction flow for a documentary collection requires the seller to forward collection instructions, appropriate documents and the seller’s draft through the banking system to the buyer’s bank. Banks act as intermediaries, protecting the interest of both parties. Both the buyer and seller assume risk in the transaction, since the buyer can refuse to pay for the documents, or the seller can ship unacceptable merchandise.

Advantages to Exporter

• Seller/banks control shipping documents
• In most cases, payment is more prompt than open account
• In most cases, collections are less expensive than letters of credit
• Usually, there are reduced processing requirements compared to letters of credit

Disadvantages to Exporter

• Payment is not guaranteed
• Collection time is longer than letters of credit and cash-in-advance
• There is less document control with air shipments
• Release of documents occurs prior to payment under ‘time’ draft collections

Open Account

Advantages to Exporter

• May encourage repeat business

Disadvantages to ExporterDisadvantages to Exporter

• No assurance of payment
• Seller’s capital is tied up until payment is made