Importers and exporters involved in global trade connect to negotiate and agree on the terms for goods to be sold. Buyers and sellers will agree to all product details, pricing,Incoterms®, method of shipment, delivery details and the agreed payment terms and payment methods. These details will be represented inPurchase Orders, Proforma Invoices and Sales Contracts that are countersignedby both parties.
There is considerable risk involved in global trade, at some point the exporter will have to decide at what point they require full payment of goods. Some payment terms will bemore favorable to the exporter or to the importer, it’s up to the 2 parties to negotiate and agree on these critical trade terms. If there has been a good trading history between the buyer and seller and a high level of trust has been built up over time, then the seller may agree to a payment term that is more favorable to the importer.
Importers and exporters must understand the different payment terms that are available and the costs & risks that are associated with each party. This article and info-graphic explains the types of payment terms that buyers and sellers can agree to for the global sale of goods.
International Payment Terms agreed by Importers and Exporters for Global Trade
Cash in Advance – Lowest risk for Exporter
Cash in Advance is the most secure payment method for the seller. Suppliers may often request a deposit amount to get the products under production, then request the balance amount of the invoice or contract before the goods leave the supplier’s warehouse. Therefore there is no risk to the supplier on not receiving full payment for the goods.
Letters of Credit (L/C)
A “Letter of Credit” (L/C) or a “Documentary Credit” (D/C) is a legally binding contract between the buyer and seller’s bank. They are used to guarantee to release the payment for the goods to the exporter (beneficiary) once certain conditions have been met, usually when the goods have been shipped (when the seller has provided a copy of the Bill of Lading). The importer’s bank will guarantee the payment of goods and a take up the collection of payment with the buyer. The payment risk is passed onto the buyer’s bank so if the buyer fails to pay then the bank will follow up the collection of payment from the buyer.
A Letter of Credit is a more expensive option as banks will often charge a percentage of the transaction. The process to complete a Letter of Credit is costly and very time consuming to draft and confirm all of the contract details between the buyer, seller and their banks. There aremany types of Letters of Creditsthat can be used, if you are interested in executing a Letter of Credit you should meet with your local bank Manager to understand all finer details.
Documentary Collection (D/C)
Documentary collections is a payment term where the seller will rely on their bank (the remitting bank) to collect the payment of funds from the buyer’s bank (collecting bank). Documentary collections are generally used when there is already an established trading relationship between the buyer and seller. They are a cheaper and less time consuming option compared to the Letter of Credit process mentioned above.
Under a Documentary Collection process the buyer will ship the goods then submit a “collection order” to it’s bank with instructions to release the original documents to the buyer upon receipt of the buyer’s payment. It can be simplified as below:
- Exporter (seller) ships the goods onboard the carrier.
- Exporter then submits the shipping documents and a “collection order” to it’s bank (remitting bank) instructing it to release the documents to the buyer when the goods have been paid.
- The remitting bank then forwards the documents, draft and collection instructions to the buyer’s bank (collecting or presenting bank).
- The buyer’s bank will carry out the “collection order” from the seller to collect the payment from the buyer. The buyer’s bank will then remit the payment to the seller’s bank, which will be transferred further through to the seller.
There are 2 types of Documentary Collections:
Document against Payment (D/P)
This is also referred to as a “Sight Draft” or “Cash Against Documents”. In this case the buyer’s bank (collecting bank) will only provide the documents and collection order to the buyer once the buyer has made payment.
Document against Acceptance (D/A)
In this case the buyer’s bank (collecting bank) has approved a credit extension that allows the buyer to make payment of the goods at a future date.
Open Account
If the seller has built up trust and has a great business relationship with the buyer, then they may offer the payment of goods on an open account. Under this arrangement the seller will ship the goods without receiving full payment of goods, which are agreed to be paid at a later date. The buyer and seller can negotiate the length of the payment, which can be anywhere from 7, 30, 60 or 90 days after the goods have been shipped or delivered. This is not a secure payment option for the seller as they bear all risk of non-payment of goods. In some cases the seller will buy export credit insurance to cover the risk of non-payment of goods.
On Consignment – Highest risk for Exporter
If Exporters choose to sell goods “on consignment” that means that they agree to supply the goods to the importer, whereby the importer is not obliged to pay for the goods until the importer has on-sold them. So essentially the exporter agrees to bear the risk associated with placing the goods at the buyer’s warehouse and retains ownership of the goods until they have been sold. It is essentially an extension of an “open account” as mentioned above, and is generally only used when the exporter and import have a long standing relationship and enough trust to proceed with this arrangement. This method can give the seller the ability to sell new products into new markets without putting large cashflow pressures on their partner importers and distributors.
How Exporters and Importers use IncoDocs to create Quotations, Proforma Invoices & Commercial Invoices to close more deals and get paid fast.
- Buyers and Sellers create a free account
- Sellers use International trade templates to easily create Proforma Invoices and Commercial Invoices to share with buyers
- Buyers click to comment, accept and countersign invoice and purchase order contracts online
- Buyers have click to pay options to make International T/T wire transfers in a few clicks
Ben Thompson
Ben is passionate about International Trade, Import/Export, International Shipping and connecting world markets. For the last 14 years Ben has specialized in importing and exporting goods around the world, and creating software solutions to streamline the import/export process.
