Red Clause Credits

The purpose of this clause in the Documentary Credits is to allow the beneficiary to obtain a pre-shipment advance from the advising or confirming bank. This advance to the beneficiary is on the responsibility of the issuing bank.
A beneficiary would require such a clause in the Documentary Credit when he is unable to secure a packing credit advance from his bank against the Documentary Credit. The beneficiary may need this advance to purchase raw materials to manufacture the goods or make cash payments for the goods purchased from another supplier or to purchase quota. The applicant of the Documentary Credit decides to what extend and under what conditions he will allow the beneficiary to receive the advance. The red clause must specify the total value of the advances. This may be given as a percentage of the Documentary Credit amount.
Advances to the beneficiary under the red clause credit usually require the beneficiary to produce a bill of exchange drawn for the value of the advance and a letter of undertaking, promising to effect shipment in accordance with the Documentary Credit Terms. Sometimes the beneficiary may have to provide a statement stating that the money advanced will be used for a specified purpose. In the event of the beneficiary failing to fulfil his obligations under the Documentary Credit which results in a claim upon the issuing bank, the applicant is immediately responsible for the repayment of the advances to the issuing bank and any interest due.
Reimbursement would be sought by the advising or confirming bank from the issuing bank immediately and the issuing bank would be responsible for such claims against the undertaking contained in the Documentary Credit.
For these reasons the opening bank normally takes full security from the opener!
(Originally, this clause in credits was written in red ink to draw attention to the unique nature of the credit. Thus the term Red Clause Credit.)


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