Documentary Credits: A Legal and Banking Mechanism for Securing Payment in International Commercial Contracts

With the expansion of international trade and the growing number of risks associated with transactions between parties located in different countries, the documentary credit stands out as one of the most important banking and legal instruments used to achieve a degree of balance between the seller’s interest in securing payment of the price and the buyer’s interest in making payment only against presentation of the documents required when the credit was opened.

Dr. Mostafa El Rouby addressed this issue in an interview published on the Akhbar El Yom electronic portal on 22 May 2025 under the title “Documentary Credit as a Guarantee for the Performance of International Commercial Contracts,” explaining the role of documentary credits in reducing the risks arising from geographical distance, differences between legal systems, and the difficulty of establishing direct trust between trading parties.

However, it is important from the outset to define the scope of this protection accurately. A documentary credit does not guarantee to the buyer that the goods actually conform to the contract in terms of quality or quantity, nor does the bank inspect the goods. Rather, the documentary credit system is based on examining the documents presented and determining whether they comply with the terms of the credit.

This is both its strength and its inherent risk: it is a system based on documents, not goods.

What Is a Documentary Credit?

Article 341 of Egyptian Commercial Law No. 17 of 1999 defines a documentary credit as a contract under which a bank undertakes to open a credit at the request of one of its customers – known as the applicant – in favor of another person – known as the beneficiary – against documents representing goods that have been transported or are intended for transportation.

The same Article establishes a principle of fundamental importance by providing that the documentary credit contract is independent of the underlying contract for which the credit was opened and that the bank remains a stranger to that contract.

Article 341 also refers, in matters for which no specific provision exists, to the Uniform Customs and Practice for Documentary Credits issued by the International Chamber of Commerce, currently known as UCP 600.

The Underlying Contract and the Documentary Credit… Two Separate Relationships

A documentary credit generally arises from an international sale contract between an importer and an exporter, but this does not mean that the bank becomes a party to the contract of sale.

If the buyer and seller agree on the supply of certain equipment and the buyer then opens a documentary credit to pay the price, two separate relationships arise:

The sale contract between the buyer and the seller.
The documentary credit and the banking relationships associated with it.

Article 4 of UCP 600 enshrines this principle by treating the credit, by its nature, as a separate transaction from the sale contract or any other contract on which it may be based.

The importance of this principle becomes apparent when a dispute arises between the buyer and the seller. As a general rule, the applicant may not instruct the bank to withhold payment merely because the applicant alleges that the seller has breached the sale contract where a banking demand is supported by documents complying with the terms of the credit, subject to exceptional cases that may arise concerning fraud or judicial orders under the applicable law.

Banks Deal with Documents, Not Goods

This is the central rule governing documentary credits.

Article 5 of UCP 600 provides that banks deal with documents and not with goods, services, or performance to which the documents may relate.

The same approach appears in Article 348 of the Egyptian Commercial Law, which provides that the bank is not liable where the documents appear on their face to comply with the instructions, and that the bank assumes no obligation concerning the goods for which the credit was opened.

Accordingly, the documents may comply with the credit and the bank may make payment, only for the buyer to discover after arrival of the shipment that the goods are defective. In that case, the dispute shifts to the sale contract and the liability between the seller and the buyer, and this does not in itself mean that the bank has improperly performed the documentary credit.

The Principal Parties to a Documentary Credit

The parties vary depending on the structure of the transaction. The most important are:

Applicant: the person requesting issuance of the credit, usually the importer or buyer.
Issuing Bank: the bank that issues the credit at the request of, or on behalf of, the applicant.
Beneficiary: the party in whose favor the credit is issued, usually the exporter or seller.
Advising Bank: the bank that advises the beneficiary of the credit or any amendment at the request of the issuing bank.
Nominated Bank: the bank with which the credit is available for honor or negotiation in accordance with its terms.
Confirming Bank: the bank that, where applicable, adds its own definite undertaking to that of the issuing bank to honor or negotiate against presentation of complying documents.

Not every documentary credit necessarily involves a confirming bank or a separate negotiating bank. The banking structure varies according to the terms of the credit, the countries concerned, and the parties involved.

How Does a Documentary Credit Work in Practice?

1. Agreeing on the Sale Contract

The process begins with a commercial contract between the buyer and the seller. The contract should specify from the outset that payment will be made by documentary credit and should set out its principal characteristics.

It is preferable for the commercial contract to specify:

The amount and currency of the credit.
The bank acceptable to the seller.
Whether the credit requires confirmation.
The deadline for opening the credit.
The latest shipment date.
The principal documents required.
The applicable Incoterms® rule.
Whether partial shipments or transshipment are permitted.

2. Applying for the Credit

The buyer applies to the issuing bank and requests issuance of a credit in favor of the seller in accordance with the agreed terms.

The bank assesses the customer’s creditworthiness and the required security or cash cover, and then issues the credit on the approved terms.

3. Advising the Credit to the Beneficiary

In international trade, the credit is generally transmitted through banking channels to the advising bank, which verifies the apparent authenticity of the credit and then advises its terms to the beneficiary.

At this stage, the exporter should not treat receipt of the credit as the end of the review process, but should examine it before manufacturing or shipping the goods.

If the exporter identifies a condition that cannot be satisfied or a document that cannot be obtained, an amendment to the credit should be requested before shipment rather than waiting until the documents are presented and discovering that they are discrepant.

4. Shipment of the Goods and Preparation of Documents

After confirming that the terms can be complied with, the seller ships the goods and prepares the documents required by the credit, which may include, depending on the nature of the transaction:

The commercial invoice.
The bill of lading or transport document.
The packing list.
The certificate of origin.
The insurance policy or certificate, where required.
An inspection or quality certificate.
A health, phytosanitary, or other certificate depending on the goods.

5. Presentation and Examination of Documents

The documents are presented to the nominated bank, confirming bank, or issuing bank in accordance with the terms of the credit.

Article 14 of UCP 600 requires the bank to examine the presentation on the basis of the documents alone in order to determine whether it constitutes a Complying Presentation.

Under UCP 600, the bank has a maximum of five banking days following the day of presentation to determine whether the presentation complies.

6. Honor or Rejection of the Documents

If the documents comply, the issuing bank must honor the credit in accordance with the payment method specified therein, whether payment is at sight, deferred, or takes another permitted form.

If discrepancies exist, the bank may refuse to honor or negotiate. However, UCP 600 imposes precise procedures for notifying the presenter of the refusal and the discrepancies.

The notice of refusal must state all discrepancies on which the bank relies and must be issued within the prescribed period. Otherwise, the bank may lose its right to claim that the documents do not comply under UCP 600.

The Principle of Compliance… Not Every Minor Discrepancy Is Without Consequence

The most common problem in documentary credits is often not failure to ship the goods, but rather Discrepancies in the documents.

A discrepancy may arise from what appears to be a minor issue, such as:

A difference between the description of the goods in the documents and the credit.
A late shipment date.
Presentation of documents after the deadline.
Failure to provide the required number of copies or originals.
A non-complying transport document.
An insurance document that does not satisfy the required conditions.
Conflicting information between two documents.

However, UCP 600 does not require the data in all documents to be literally identical. It is sufficient that the data do not conflict when read in the context of the credit, the documents, and international standard banking practice.

This is where ISBP, the International Standard Banking Practice for the Examination of Documents, becomes important. Its latest edition is ISBP 821, issued by the International Chamber of Commerce in 2023 and used alongside UCP 600.

Egyptian Law Regulates Documentary Credits in Articles 341 to 350

Commercial Law No. 17 of 1999 dedicates Articles 341 through 350 to documentary credits, creating a framework more detailed than that reflected in the original article.

Among the most important provisions are:

Article 341: definition of the credit, its independence from the underlying contract, and reference to the uniform customs issued by the International Chamber of Commerce.
Article 342: the bank’s obligation to perform the terms governing payment, acceptance, and discount where the documents comply with the terms of the credit.
Articles 343 and 344: regulation of revocable and irrevocable credits under Egyptian law.
Article 345: establishment of the definite and direct nature of the bank’s obligation under a firm irrevocable credit.
Article 346: the possibility of confirmation of a firm credit by another bank, while confirming that mere advising does not constitute confirmation.
Article 347: requiring the bank to verify that the documents comply with the applicant’s instructions and to notify the applicant where they are rejected.
Article 348: excluding the bank’s liability for the goods where the documents appear on their face to comply.
Article 349: regulation of transfer and division of the credit.
Article 350: regulation of the bank’s right to enforce against the goods where the applicant fails to pay the value of complying documents within the period prescribed by law.

Does a Revocable Documentary Credit Still Exist Today?

This issue requires distinguishing between the provisions of the Egyptian Commercial Law and the modern UCP 600 rules.

Article 343 of the Egyptian Commercial Law still provides that a credit may be revocable or firm and irrevocable, and treats it as irrevocable unless its revocability is expressly agreed.

UCP 600, however, takes a more definitive approach by defining a credit as an irrevocable undertaking and providing that a credit is irrevocable even if there is no express indication to that effect.

Accordingly, international documentary credits issued subject to UCP 600 are, in practice, irrevocable, and the “revocable credit” is no longer a common form in modern international banking practice.

For this reason, revocable and irrevocable credits should not today be presented as two equally prevalent forms.

Confirmed Documentary Credits… Additional Protection for the Exporter

Under an unconfirmed credit, the beneficiary relies principally on the undertaking of the issuing bank.

Under a confirmed credit, another bank adds its own independent undertaking to honor or negotiate in addition to that of the issuing bank, provided that complying documents are presented.

This structure becomes important where the exporter is concerned about:

Risks associated with the country in which the issuing bank is located.
The creditworthiness of the issuing bank.
Transfer risks or financial restrictions.
Political or economic disruption.

The mere fact that a bank in the exporter’s country advises the credit does not constitute “confirmation,” as expressly provided by Article 346 of the Egyptian Commercial Law and consistently reflected in UCP 600.

Transferable Documentary Credits

A transferable credit is used in certain transactions where the first beneficiary acts as an intermediary between the buyer and the actual supplier.

Transfer is not permitted merely because the beneficiary wishes it. The credit must have been issued as transferable in accordance with the applicable rules.

Article 38 of UCP 600 regulates transferable credits, while Article 349 of the Egyptian Commercial Law regulates transfer of a credit and links it to the existence of authorization and bank approval in accordance with the provisions established by the Article.

Sight Credits and Deferred Payment Credits

A distinction must also be made between the method of payment and other classifications of documentary credits.

A credit may be available by:

Sight Payment: payment is made following acceptance of a complying presentation in accordance with the terms of the credit.
Deferred Payment: an undertaking arises to make payment at a specified future date.
Acceptance: in cases involving a bill of exchange in accordance with the structure specified in the credit.
Negotiation: in accordance with the definition and requirements of UCP 600.

This issue directly affects transaction financing and the cash flows of both exporter and importer, and should therefore be agreed from the stage of drafting the sale contract.

Incoterms® and Documentary Credits… A Relationship Often Misunderstood

Incoterms® rules affect the documents expected to be presented under the credit, but they do not constitute a banking contract and do not replace the terms of the credit.

The current International Chamber of Commerce rules are Incoterms® 2020, comprising 11 rules, four of which are specifically intended for sea and inland waterway transport:

FAS.
FOB.
CFR.
CIF.

FOB – Free On Board

The seller delivers when the goods are placed on board the vessel nominated by the buyer at the named port of shipment, and the risk of loss or damage passes to the buyer once the goods are on board the vessel.

Accordingly, the old expression “passing over the ship’s rail” is no longer the terminology used in modern Incoterms® rules.

CFR – Cost and Freight

The seller contracts for carriage and pays its cost to the named port of destination, but the transfer of risk does not await arrival of the goods at the destination port. Rather, risk passes to the buyer when the goods are placed on board the vessel at the port of shipment.

This is one of the areas in which the allocation of costs and the transfer of risk are most commonly confused.

CIF – Cost, Insurance and Freight

In addition to the obligations applicable under CFR, the seller obtains the insurance coverage required by the rule for the benefit of the buyer or other interested party, while risk still passes when the goods are placed on board the vessel at the port of shipment.

Accordingly, the fact that the seller pays freight and insurance to the port of destination does not mean that the seller bears the risk of the goods until arrival.

The Term C&I Is Not an Incoterms® 2020 Rule

The previous text referred to “C&I” as though it were one of the Incoterms rules, which is inaccurate.

The official Incoterms® 2020 rules do not include a rule called C&I. If the parties wish to agree contractually that the seller will bear the cost of the goods and insurance without carriage, they may structure such an arrangement in their contract, but it should not be described as a separate Incoterms® rule.

Do Incoterms Determine Ownership or the Method of Payment?

No.

Incoterms® rules principally determine the allocation of certain obligations, costs, and risks of loss or damage between the seller and the buyer.

They do not themselves determine:

The time at which ownership of the goods passes.
The method of payment of the price.
The law applicable to the contract.
The competent court or arbitration forum.
The consequences of breach of contract.

These matters must therefore be regulated separately in the international sale contract.

The Most Serious Mistake: Copying the Sale Contract into the Credit

The greater the number of non-documentary conditions included in the credit, the greater the likelihood of dispute.

It is preferable that the letter of credit should not become a complete copy of the sale contract. UCP 600 establishes that the credit is independent of the underlying contract and encourages the issuing bank to discourage attempts to include copies of the contract or pro forma invoice as an integral part of the credit.

Proper drafting requires converting the obligations that the buyer wishes to monitor into specific documents capable of being examined by banks.

Instead of stating that “the goods must be of the highest quality,” if quality is a critical element, the credit should specify an independent inspection certificate, the entity issuing it, and the information that must appear in it.

There Should Not Be More Documents Than Necessary

A buyer may believe that requiring dozens of documents increases the level of protection, but the result may be the opposite.

Every additional document creates an additional possibility of a discrepancy that may delay payment.

The credit should therefore be limited to documents that have genuine value in proving matters the applicant wishes to verify, and those documents should actually be obtainable in the exporter’s country within the available time limits.

Fraud Risks and Forged Documents

The principle that banks deal in documents does not mean that the system is completely immune from fraud.

A particular document may appear genuine on its face and later prove to be forged, or the documents may describe goods that do not correspond to reality.

Article 348 of the Egyptian Commercial Law provides that the bank is not liable where the documents appear on their face to comply with the applicant’s instructions, confirming that the bank does not ordinarily act as a technical expert responsible for verifying the actual goods.

Accordingly, buyers in higher-risk transactions may require additional protective measures, such as:

Dealing with a supplier that has been vetted in advance.
Using an independent inspection company.
Requiring an appropriate inspection certificate under the credit.
Precisely identifying the required documents and their issuing entities.
Conducting legal and commercial due diligence on the counterparty.

A Letter of Credit Does Not Replace the Sale Contract

A common mistake is to assume that opening a documentary credit eliminates the need for a detailed international sale contract.

This is incorrect. The documentary credit regulates a banking payment mechanism, while the sale contract continues to govern matters such as:

Specifications of the goods.
Warranties.
Inspection and acceptance.
Delay.
Defects.
Force majeure.
Transfer of ownership.
The applicable law.
Dispute resolution.

It is preferable for the sale contract and documentary credit to be drafted consistently so that the contract does not require the seller to do one thing while the credit requires a different document or procedure.

Seven Mistakes to Avoid Before Issuing the Credit

Drafting the credit after signing the contract without prior coordination with the sale terms.
Requiring documents that the beneficiary cannot obtain.
Including non-documentary conditions that the bank cannot readily verify.
Failing to specify the Incoterms® rule, year, and place or port precisely.
Setting shipment, presentation, and expiry dates too close together to be practical.
Failing to address the effect of partial shipments or transshipment.
Failing to have the beneficiary review the draft credit before commencing production and shipment.

Digital Transformation and Electronic Documentary Credits

Documentary credits are no longer confined to paper documents.

The International Chamber of Commerce has issued the eUCP supplement to regulate electronic presentation of records and documents under credits subject to its rules.

The current version is eUCP Version 2.1, which supplements UCP 600 and permits the use of electronic records alone or together with paper documents where the credit expressly provides that it is subject to eUCP.

The latest edition of the International Standard Banking Practice, ISBP 821, was also issued in 2023, reflecting the continuing development of banking rules to keep pace with digital trade.

The importance of electronic documentary credits is expected to increase as electronic transport documents and paperless trade technologies become more widespread.

When Is a Documentary Credit an Appropriate Option?

A documentary credit is particularly useful where:

The commercial relationship between buyer and seller is new.
The transaction value is high.
Political or economic risks exist in one of the countries involved.
The exporter requires a stronger banking assurance than the buyer’s mere promise to pay.
The importer wishes to link payment to presentation of specified documents.
The transaction requires bank financing.

However, a documentary credit may not be economical for small transactions or between parties with a long-standing and stable commercial relationship because of bank commissions, costs, and procedural requirements.

Documentary Credit and Documentary Collection Are Not the Same

It is also important not to confuse Documentary Credit with Documentary Collection.

Under documentary collection, banks primarily act in transmitting documents and collecting payment in accordance with instructions, but they do not provide the beneficiary with the same independent undertaking given by the issuing bank under a documentary credit.

The level of risk and cost therefore differs between the two methods, and the appropriate instrument should be selected according to the strength of the commercial relationship, the country involved, the counterparty, and the value of the transaction.

The Role of the Office of Dr. Mostafa El Rouby – Attorneys and Legal Consultants

The Office of Dr. Mostafa El Rouby – Attorneys and Legal Consultants believes that a documentary credit should not be reviewed as a banking form detached from the underlying commercial transaction.

An error in the sale contract may be reflected in the credit, an error in the selected Incoterms® rule may result in a document being required that does not correspond with the party’s actual responsibilities, and an error in the description of the goods or deadlines may lead to rejection of the documents even though the shipment itself has been performed.

Legal support for companies in this field includes:

Drafting and reviewing international sale contracts.
Reviewing documentary credit terms before issuance.
Ensuring consistency between the credit, the sale contract, and Incoterms®.
Reviewing documentary requirements and presentation deadlines.
Assessing confirmed and transferable credits and different financing structures.
Evaluating documentary discrepancies and notices of refusal.
Negotiating amendments to the credit.
Managing disputes relating to payment, documents, and the underlying commercial contracts.
Coordinating the legal, banking, and logistics aspects of the transaction.

Conclusion

The documentary credit remains one of the most important instruments developed by banking practice to manage the risks of international trade, but it is neither an absolute guarantee of contract performance nor a substitute for a properly drafted commercial contract.

Its strength rests on two fundamental principles: the independence of the credit from the sale contract, and the fact that banks deal with documents rather than goods.

These two principles provide the exporter with a substantial degree of assurance that payment will be made upon presentation of complying documents, while also giving the importer a mechanism for linking payment of the price to documents specified in advance.

However, this protection depends on precise drafting. A documentary credit containing impossible documentary requirements, ambiguous descriptions, or unrealistic deadlines may turn from an instrument for securing the transaction into a source of dispute.

UCP 600, ISBP 821, and the digital developments reflected in eUCP 2.1 also demonstrate that documentary credits constitute an evolving legal and banking system requiring knowledge that combines law, commerce, banking, and international transportation.

Accordingly, genuine protection does not begin when the documents are presented to the bank, but rather from the moment the sale contract and the terms of the credit are drafted consistently before the transaction is performed.

Documentary Credit as a Guarantee for the Performance of International Commercial Contracts – Interview with Dr. Mostafa El Rouby – Akhbar El Yom Portal