Confirmed vs Unconfirmed Letters of Credit: Bank Roles and Risk Allocation Explained
Confirmed vs Unconfirmed Letters of Credit: Bank Roles and Risk Allocation Explained
1 Baseline: What an LC Does
A letter of credit (LC) is a bank undertaking to pay the seller once documents proving shipment or service completion align with the LC terms. It transfers payment risk from the buyer to the issuing bank, letting exporters ship with confidence even if the importer defaults or local currency controls tighten overnight.
2 Confirmed vs Unconfirmed—Key Distinction
| Attribute | Unconfirmed LC | Confirmed LC |
|---|---|---|
| Payment obligation | Issuing bank only | Issuing and confirming bank |
| Seller’s exposure | Issuer default, country risk | Shifted to confirming bank’s balance-sheet |
| Typical use | OECD issuers, stable FX | Emerging-market issuers, long tenors |
| Cost | 0.5–1 % p.a. | LC fee + 0.4–2 % p.a. confirmation |
| Document flow | Advising bank forwards docs to issuer | Confirming bank checks docs, pays exporter, seeks reimbursement |
3 Who Does What in an LC Chain
| Bank Role | Main Task | Risk Held |
|---|---|---|
| Issuing Bank | Opens LC at buyer’s request; pays on compliant docs | Buyer credit & country risk |
| Advising Bank | Authenticates LC, delivers to exporter | Minimal—message integrity |
| Confirming Bank | Adds its own promise to pay | Issuer default until reimbursed |
| Negotiating Bank | Discounts drafts pre-maturity | Document compliance risk |
| Reimbursing Bank | Holds issuer’s nostro, settles confirming bank | Funds settlement only |
4 Step-by-Step Flow (Confirmed LC)
- Importer applies; issuing bank sends MT 700 to advising/confirming bank.
- Confirming bank adds its guarantee.
- Exporter ships, presents documents.
- Confirming bank checks, pays exporter.
- Confirming bank claims reimbursement via reimbursing bank.
- Importer repays issuing bank at sight or deferred maturity.
5 When to Ask for Confirmation
- Issuer rating BBB- or lower, or political-risk country ceiling is tight.
- Tenor > 180 days, exposing seller to FX swings.
- Deal size exceeds exporter’s internal bank limits.
6 Cost & Negotiation Tips
Confirmation spreads depend on issuer rating, country risk, tenor, and currency. Exporters often fold the extra fee into product pricing or split costs with the buyer. Competitive quotes from multiple confirming banks can tighten spreads by 40–60 bps for identical risk.
7 Alternatives to Confirmation
- Export-credit agency (ECA) insurance up to 95 % cover.
- Silent confirmation—bank discounts docs without disclosing guarantee.
- Supply-chain finance or bank payment obligation (BPO) for repeat trades.
As a dedicated trade-finance advisory, we plug clients into a global lender network that competitively prices LC issuance and confirmation. Our team structures terms, aligns banking counterparties, and shepherds each LC from draft through final settlement—removing friction and cutting cost.
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