Module: | MODULE A: INTERNATIONAL BANKING
Q79: Consider the following statements regarding a Back to Back Letter of Credit structure. Which of the statements is or are INCORRECT?
Statement 1: A Back to Back Letter of Credit involves two distinct Letters of Credit, where the primary export credit serves as the collateral base for issuing a secondary import credit.
Statement 2: The issuing bank of the secondary credit is exempt from paying the secondary beneficiary if the issuing bank of the primary credit defaults or goes bankrupt.
Statement 3: Any discrepancies found in the documents presented under the secondary credit will automatically and legally invalidate the primary credit.
Statement 2: The issuing bank of the secondary credit is exempt from paying the secondary beneficiary if the issuing bank of the primary credit defaults or goes bankrupt.
Statement 3: Any discrepancies found in the documents presented under the secondary credit will automatically and legally invalidate the primary credit.
✅ Correct Answer: B
The correct option is B. Only 2 and 3 are INCORRECT.
Concept Definition: A Back to Back Letter of Credit arrangement is used when a middleman receives an export credit but cannot or does not want to use a Transferable credit.
Instead, they opt to have their own bank issue a new and separate credit to the actual supplier, based on the security of the first credit.
Structural Breakdown: There are two entirely separate credit contracts.
The first credit is from the foreign buyer bank to the middleman.
The second credit is from the middleman bank to the actual supplier.
Historical/Related Context: This mechanism is riskier for the middleman bank than a transferable credit.
This is because the bank is issuing its own distinct payment undertaking while relying on the eventual payment of the first credit for financial cover.
Causal Reasoning: Because of the principle of autonomy, the two credits are legally independent.
Therefore, Statement 2 is incorrect.
The issuing bank of the second credit must pay the secondary beneficiary upon a complying presentation, regardless of whether the first issuing bank defaults.
Statement 3 is also incorrect.
Discrepancies in the second credit have no automatic legal bearing on the first credit.
The middleman can correct discrepancies or substitute documents to ensure the first credit remains compliant.
Statement 1 is the only correct statement describing the structure.
Concept Definition: A Back to Back Letter of Credit arrangement is used when a middleman receives an export credit but cannot or does not want to use a Transferable credit.
Instead, they opt to have their own bank issue a new and separate credit to the actual supplier, based on the security of the first credit.
Structural Breakdown: There are two entirely separate credit contracts.
The first credit is from the foreign buyer bank to the middleman.
The second credit is from the middleman bank to the actual supplier.
Historical/Related Context: This mechanism is riskier for the middleman bank than a transferable credit.
This is because the bank is issuing its own distinct payment undertaking while relying on the eventual payment of the first credit for financial cover.
Causal Reasoning: Because of the principle of autonomy, the two credits are legally independent.
Therefore, Statement 2 is incorrect.
The issuing bank of the second credit must pay the secondary beneficiary upon a complying presentation, regardless of whether the first issuing bank defaults.
Statement 3 is also incorrect.
Discrepancies in the second credit have no automatic legal bearing on the first credit.
The middleman can correct discrepancies or substitute documents to ensure the first credit remains compliant.
Statement 1 is the only correct statement describing the structure.