A letter of credit is a payment guarantee: a bank undertakes to pay your supplier once they present documents proving they shipped what was agreed. Import finance is funding: a facility that pays the supplier and gives you a period before you have to repay it. One solves a trust problem, the other solves a cash flow problem, and confusing them is the most common mistake importers make. Letters of credit explained covers the first product in detail.
The two different problems
The trust problem: you and your supplier have never traded, they will not ship before payment, and you will not pay before shipment. Neither of you can verify the other. This is what a letter of credit exists to solve, by replacing your promise with a bank's.
The cash flow problem: you pay the supplier on shipment, the goods spend weeks at sea, then more time in a warehouse, then you sell on thirty or sixty day terms. Your money is out of the business for months before it comes back. This is what import finance exists to solve, by funding that gap.
A new importer dealing with an unfamiliar supplier and selling on terms has both problems at once, which is why the products are often used together rather than as alternatives.
When a letter of credit is the answer
A new supplier relationship where neither side has a basis for trusting the other. A supplier who insists on it before manufacturing to order. A jurisdiction where enforcing a contract would be impractical if things went wrong. A transaction large enough that failure would materially damage your business.
It is also the answer when the supplier is the one demanding security, which is common where you are asking them to produce goods to specification that would be difficult to sell to anyone else.
What it does not do is fund you. If the credit is payable at sight, the bank pays your supplier on presentation of documents and debits you, which means you have paid on shipment. The trust problem is solved and the cash flow problem is untouched.
When import finance is the answer
An established supplier relationship where trust is not the issue but timing is. A business whose stock cycle from payment to customer receipt runs for months. Growth, where each additional container has to be funded before it can be sold.
Import or trade finance facilities typically pay the supplier and give you a defined period, often aligned to your expected sales cycle, before repayment falls due. Some are structured against the goods themselves, some against the receivables the goods eventually generate, and some against the business generally.
Where the facility is repaid from customer invoices, it often connects naturally to invoice finance, so the money moves from the import facility to the debtor facility as stock converts to sales without a cash gap in between.
The middle option people miss
A usance or deferred payment letter of credit does both jobs at once. The bank guarantees payment, which satisfies the supplier, but payment falls due a set number of days after presentation or shipment rather than immediately. That deferral period is effectively trade credit, and it is often the cheapest funding in the whole transaction.
Negotiating the deferral is a commercial conversation with your supplier, not a banking one. A supplier confident of being paid by a bank at ninety days may well accept that in preference to being paid by you at sight, and the cost to you is far lower than any separate facility.
The cheaper option as the relationship matures
Letters of credit carry real costs and consume facility limits from issuance to expiry. As a supplier relationship becomes established, the mechanism often stops earning its keep.
Moving to open account terms with trade credit insurance, or to a documentary collection, is usually cheaper and lighter. Many long-standing importers use letters of credit only for new suppliers and for transactions above a threshold they set themselves, and run everything else on open account.
How to decide
Ask two questions. Does the supplier require a payment guarantee, or would they accept open account or a deposit arrangement? And do you need funding between paying and being paid, or can the business carry that gap from its own resources?
A yes to the first points to a letter of credit. A yes to the second points to import finance. A yes to both points to a usance credit, or to the two products used together.
Where to from here
We arrange import finance, letters of credit and the wider trade finance range across our whole lender panel. There are no fees to clients; the lender pays us when the finance settles. Book a 20-minute brief before you agree payment terms on a new supply arrangement, because the terms are much harder to change afterwards.
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