Revolving Letter of Credit

A revolving letter of credit is a letter of credit that reinstates its available amount, either after each drawing or at the start of each new period, so that one credit can pay for a series of shipments under a continuing supply contract. Importers use it when they buy the same goods from the same supplier at regular intervals and do not want to apply for, pay for and wait on a fresh credit for every consignment.

The revolving feature is a term written into an ordinary documentary credit, not a separate legal instrument. UCP 600, the International Chamber of Commerce rules that govern most commercial credits, has no article on revolving credits, so everything depends on the wording the issuing bank puts in the credit. The structure is often confused with a bank's revolving credit facility, which is a loan line rather than a payment undertaking to a third party.

Think of a prepaid transit card that tops itself back up to the same balance every month. The rider never has to queue at the ticket office again; the card simply refills on schedule, and each month's balance can only be spent on that month's journeys unless the rules say leftovers roll over.

A revolving credit does the same for an exporter who ships every month. The bank promises to pay for one month's goods, up to a set amount. When that month's documents have been paid, or when the next month begins, the promise refills. The buyer gets one set of paperwork and one set of bank fees. The seller gets a standing bank promise for the whole contract instead of having to ask each time whether a new credit has been opened.

A revolving credit states a limit per revolution (for example USD 100,000), the number of revolutions or the final expiry date, and the trigger for reinstatement. The two common triggers are:

• Revolving by time. The amount becomes available again at fixed intervals, such as each calendar month or quarter, whether or not the previous amount was used.
• Revolving by value. The amount is restored only after a drawing has been paid, or after the issuing bank has been reimbursed by the applicant.

Reinstatement can be automatic, where the amount refills without any further step, or non-automatic, where the issuing bank must send a notice (usually through the advising bank over SWIFT) confirming that the next tranche is available. Non-automatic reinstatement gives the applicant and its bank a checkpoint to stop the credit if the buyer's position worsens or a dispute arises, which is why banks prefer it for weaker customers.

The credit must also say what happens to an amount that is not drawn in its period. In a cumulative credit the unused balance carries forward and can be drawn later, so a missed March shipment could be made up in April. In a non-cumulative credit the unused amount lapses at the end of the period. Non-cumulative wording protects the buyer from receiving two months of goods at once, and it caps the bank's exposure in any one period.

The issuing bank's maximum liability is the number of revolutions multiplied by the amount per revolution. A credit for USD 100,000 a month over twelve months is, for credit approval purposes, a USD 1.2 million commitment, even though no more than USD 100,000 (or more, if cumulative) can be drawn at any time. Because of this, banks often book the full contingent amount against the applicant's limits, or ask for collateral to cover the revolutions, which affects the buyer's working capital.

Revolving credits suit steady, predictable trade: raw materials delivered to a factory on a schedule, bulk commodity contracts shipped in monthly liftings, or a distributor that restocks from the same overseas manufacturer. They are common in South and East Asian import trade, where documentary credits remain a mainstream payment method.

A revolving credit is one way to manage repeat shipments. The alternatives each solve a slightly different problem:

• Instalment credits. A single credit that schedules partial shipments in fixed instalments. Under UCP 600 Article 32, if one instalment is missed, the credit stops being available for that and all later instalments, which is stricter than most revolving wording.
• Standby credits. A standby letter of credit backing open-account trade pays only if the buyer fails to pay, so it involves far less document handling for each shipment.
• Separate credits. Opening a new credit per shipment costs more in fees and time, but lets the buyer change terms between shipments without needing a documentary credit amendment.

For the seller, the main risk is non-automatic reinstatement: if the issuing bank declines to reinstate, the remaining revolutions are worth nothing, even though the sales contract still runs. Exporters therefore read the reinstatement clause as carefully as the amount. For the buyer and its bank, an automatic, cumulative credit can expose them to a large drawing if the seller ships late and then presents several months of documents together.

Each presentation is examined on its own as a full documentary presentation, with the same rules on discrepancies and the same deadline to present after shipment as any other credit. Banks also screen every drawing, not just the original issuance, for sanctions and signs of trade-based money laundering, because a long-running credit can see changes in vessels, ports and goods over its life. Clear wording on the per-period limit, the reinstatement trigger, the cumulative status and the final expiry avoids most disputes.

• International Chamber of Commerce