Bank Guarantee vs. Letter of Credit: what’s the Difference?

Bank Guarantee vs. Letter of Credit

A bank guarantee and letter of credit is both a product for verification. However, no matter the state of the borrower’s finance, this document states that a borrower will be able to repay a debt to the lender. However, if both stand as a guarantee document, what is the difference? Since both bank guarantee and letter of credit can stand on behalf of the lender if the borrower couldn’t pay.

As a result of providing assurance of payment to the lender, it, therefore, reduces the risk factors and encourages transactions. Though these functions are editable from both documents, there is a slight difference in their work and in different conditions or situations.

Bank Guarantee vs. Letter of Credit: what’s the Difference?

A Letter of credit is most important in international trade because it involves a farther distance. This is because it involves business laws from different parties in different countries. Now if the letter of the transaction is elementarily used in international or global trade, the bank guarantees are often used in real estate contracts and projects of infrastructure.

WHAT YOU SHOULD KNOW Bank Guarantee vs. Letter of Credit

  • Do you know that a bank guarantee is a promise from a lending institution that ensures the bank will step up if a debtor can’t cover a debt? But because it is used in securing contracts of real estate and project infrastructure, it is, therefore, different from a letter of credit.
  • Do you know that letter of credit is also a financial promise made by the bank on behalf of the lender in a transaction to seal the capacity of the borrower to pay back? But because it is primarily used in international or global trade, it differentiates it from bank guarantee.
  • Lastly, bank guarantees are obtainable in real estate contracts and infrastructure projects, while letters of credit are primarily obtainable in global transactions.
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Bank guarantee

The Bank guarantee effectually functions significantly for contractual lines of credit in banks compared to a letter of credit. A bank guarantee assures a sum of money to a beneficiary so does a letter of credit. This obligation will be fulfilled by the bank when the borrowing. Party does not fulfill its obligations as outlined in the contract. This in a common-sense serves as insurance to. The beneficiary from loss or damage at the expense of default from the obligated party.

The bank guarantee protects both parties in a. Contract agreement from risk. This means they will both be issued a bank guarantee.

Types of Bank Guarantees

The most common kinds of guarantees are as follows

Shipping guarantees:

in a shipping contract, this kind of guarantee is issued. To the carrier for a shipment that arrives before any documents are received.

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Loan guarantees:

loans from loan institutions should pledge with a. Loan guarantee that they will handle the financial obligations of the. Borrower when they default.

 

Advanced payment guarantees:

 in an advanced payment loan, a guarantee payment serves. As back up to the contract’s performance.

Confirmed payment guarantees:

this guarantees that the bank pays a specific amount to the. Beneficiary on behalf of the debtor by a certain date.

 Letter of Credit

Letter credit issued by a financial institution (a bank or credit union) acts as a promised document. Which guarantees a buyer’s payment to a lender or seller for the full amount. This is because it primarily involves international. And global trade. This also covers the borrower’s default and. The bank will take up the payment in this case.

If the obligation defaults. The letter of credit issued by the bank covers. The repayment to the beneficiary. As long as the services were performed, payments will be made.

Types of Letters of Credit

  • An irrevocable letter of credit
  • confirmed letter of credit 
  • An import letter of credit
  • A revolving letter of credit

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