Current Legal Issues
- BANKING AND FINANCIAL SERVICE
- (2) Letter of Credit (L/C)
When someone intends to import foreign merchandise, he approaches
the bank to open a letter of credit (L/C). The bank gives an
undertaking to handle the papers of the imported goods, deliver it
to the L/C holder and pay the exporter the cost thereof. Of course,
this could be done after the completion of the transaction between
the importer and the exporter, be it through exchange of
communications or through the agent in the country of origin.
Dispatch of documentation containing specifications and quantity of
the goods, and conditions agreed should also have been concluded
between the two parties. Also, the importer should have paid, in
part, the cost of the goods to the bank. Only then would the bank
receive the whole gamut of documentation and pay the cost to the
Export L/C differs from the Import L/C in name. That is, the foreign
importer goes through the whole process as explained above in the
country that imports the goods.
In essence the two L/Cs do not differ. The crux of the matter is the
undertaking given, by the bank, to the seller [exporter] to (a)
settle the debt of the buyer [importer], which is the price of the
goods bought, and (b) receive the documentation from the seller and
deliver them to the buyer.
However, there is another type of L/C, where the exporter sends the
documentation to the bank or its branch in the [country of origin]
without prior correspondence with the party intending to import the
goods. The bank, [acting as a middle man], approaches the importer
with the documentation. If there is acceptance of such
documentation, the importer will ask the bank to open the L/C for
them. The bank will then see the whole process through until the
importer takes delivery of the goods and the exporter receives the
- (9) Apparently, it is permissible to open L/C with the banks in
all the above departments. It s also permissible for the banks to
carry out such services.
- (10) The bank shall receive from the L/C holder two kinds of
- The first is for its services stemming from the undertaking
given by it to the exporter, and for the paperwork and the like.
This sort of charge is in order on the understanding that it
constitutes part of the contract [between the bank and the
customer]. That is, the L/C holder agrees to pay the bank such a
charge in return for carrying out such services on behalf of the
customer. It could, however, be included in the ijarah
agreement, provided it fulfils the conditions mentioned therein.
- The second type of charge takes the form of interest on the
sum of money the bank paid to the exporter from its own money,
i.e. not from the L/C holder's own account. This proportional
interest is charged on the advance made to the L/C holder for a
Charging such interest may be justified on the premise that the
bank is not embarking on a lending process that involves the L/C
holder. Neither the price of the goods forms a part of its
property according to the loan agreement. Thus, it is not
Indeed, the bank pays the debt of the L/C holder at his request.
However, from a standpoint of the law of waste, the security of
the L/C holder would be a sort of penalty, and not a loan surety
for the payment of interest to be haraam.
However, evidently the L/C holder cannot secure for the bank the
repayment of the debt per se. Charging interest,
therefore, for the delay in repaying the debt is usury that is haraam.
Of course, if the L/C holder undertakes to pay back to the bank
the original amount of debt plus the prescribed amount of
interest as credit for, say, two months, this should fall under
the terms of ijarah agreement. Its being in order is one
strand of opinion.
There is, however, another way to avoid usury involved in
charging such interest. That is, it could be stipulated in the
terms of sale, in that the bank settles the price of the goods
in foreign currency. The bank could, then, sell an amount of
foreign currency, that is lent to the importer, equivalent to
the currency of his country plus the interest. Since the price
and the goods are two different things, there is no harm in it.
The rulings discussed above concern national banks. As for banks
solely owned by the state and those of joint ownership, where
the bank settles the debt of L/C holder from the money of majhoulil
malik, the customer is not legally [from the viewpoint
of Islamic law] considered a debtor to the bank. The
undertaking, therefore, to pay the interest to the bank does not
amount to an undertaking of paying usury that is haraam.