A reimbursement undertaking is an irrevocable promise by a reimbursing bank, issued at the request of the issuing bank of a letter of credit, to pay a named claiming bank's reimbursement claims under that credit. The claiming bank is usually the nominated bank that has paid, accepted or negotiated for the exporter. The undertaking gives that bank a direct claim on the reimbursing bank, which is often a large bank in a major financial centre, rather than relying only on the issuing bank.
It is defined and regulated by the ICC's Uniform Rules for Bank-to-Bank Reimbursements (URR 725). It differs from an ordinary reimbursement authorization, which only permits the reimbursing bank to pay and gives the claiming bank no rights against it. Because it adds a second bank's promise, a reimbursement undertaking is sometimes described as confirming the reimbursement, though it is not a confirmation of the credit itself.
Reimbursement undertaking in plain terms
Imagine you agree to pay a supplier on behalf of an overseas friend, who says their bank will repay you. You are not sure the friend's bank is solid. So the friend asks a big, well-known bank to write to you directly: "if you send us a valid claim, we will pay you ourselves". Now you can rely on the big bank, whatever happens to your friend's bank.
That letter is a reimbursement undertaking. The bank paying the exporter wants certainty that it will get its money back. An ordinary reimbursement arrangement is just permission for the big bank to pay, which can be withdrawn or fail if there is no money in the account. The undertaking turns that permission into the big bank's own promise, for a fee.
How it works
The issuing bank asks its reimbursing bank to add an undertaking when it sends the reimbursement instruction. If the reimbursing bank agrees, it issues the undertaking to the claiming bank, stating the credit, the maximum amount, the expiry date and the claim conditions. Unlike a plain authorization, an undertaking normally has an expiry date and a place for claims, set so that the claiming bank has time to claim after the last date for presentation under the credit.
The claiming bank, after honouring or negotiating, sends a claim that conforms with the undertaking. The reimbursing bank must pay a conforming claim from its own resources, whether or not the issuing bank has funded its account. It then recovers the money from the issuing bank, usually by debiting its nostro account or drawing on a credit line it has granted. As with authorizations, the reimbursing bank does not examine the trade documents.
Under URR 725, a reimbursement undertaking cannot be amended or cancelled without the agreement of the claiming bank. The reimbursing bank is also free to refuse an issuing bank's request to issue one; a bank is never obliged to add its own undertaking.
Why banks ask for it
The undertaking addresses counterparty risk on the issuing bank. A nominated bank may be happy to handle documents and pay an exporter, but unwilling to rely on an issuing bank in a country with weak bank ratings, foreign exchange shortages or capital controls. With an undertaking from a highly rated correspondent bank, its exposure for the reimbursement leg moves to that bank.
It sits between two other forms of comfort:
| Arrangement | Who promises the claiming bank | What it covers |
|---|---|---|
| Reimbursement authorization | Only the issuing bank | Permission for the reimbursing bank to pay |
| Reimbursement undertaking | The reimbursing bank as well | Payment of conforming claims for the reimbursement leg |
| Confirmation of the credit | The confirming bank, to the beneficiary | Honour or negotiation of a complying presentation |
A confirmation protects the exporter directly. An undertaking protects the bank that has already paid the exporter, which may in turn make that bank willing to pay at sight or discount a usance credit without recourse.
Cost and practical points
The reimbursing bank charges a fee for the undertaking, priced on its view of the issuing bank's credit risk and the tenor, similar to a confirmation fee. The charge is normally for the issuing bank's account, which may pass it on to the importer. The reimbursing bank holds the undertaking against its credit limit for the issuing bank, and in weak markets those limits can be scarce or expensive.
Undertakings are used most where correspondent banking relationships are thin. Claims under them are paid through ordinary SWIFT channels and screened for sanctions like any other trade payment. Because the reimbursing bank takes on real credit exposure, it also applies its own know-your-customer and trade-payment compliance checks on the issuing bank before agreeing.