What is the Difference Between Bill of Exchange and Letter of Credit?
🆚 Go to Comparative Table 🆚The main difference between a bill of exchange and a letter of credit lies in their nature and function. Here are the key differences:
- Nature: A letter of credit is a payment mechanism, whereas a bill of exchange is a payment instrument.
- Number of Parties: A letter of credit involves four parties: the buyer, the seller, the issuing bank, and the advising bank. In contrast, a bill of exchange involves three parties: the drawer, the drawee, and the payee.
- Function: A letter of credit is an agreement in which the buyer's bank guarantees to pay the seller's bank at the time goods/services are delivered, ensuring that the seller receives payment. On the other hand, a bill of exchange is generally used in international trade activities where one party will pay a fixed amount of funds to another party at a predetermined date in the future.
- Conditionality: A letter of credit sets up the conditions that must be met for the payment to be made, and it is not the actual payment itself. In contrast, a bill of exchange is an unconditional order written by the seller to the buyer, requiring the buyer to pay the seller a specific amount at a predetermined date.
- Negotiability: A bill of exchange is a negotiable instrument, meaning it can be transferred from one person to another, allowing the holder of the bill of exchange to receive payment.
Both letters of credit and bills of exchange facilitate international transactions between buyers and sellers, providing lines of credit for the buyer and ensuring payment for the seller.
Comparative Table: Bill of Exchange vs Letter of Credit
The main difference between a bill of exchange and a letter of credit is that a letter of credit is a payment mechanism, whereas a bill of exchange is a payment instrument. Here is a table highlighting the key differences between the two:
| Feature | Bill of Exchange | Letter of Credit |
|---|---|---|
| Purpose | A written order binding one party to pay a fixed sum of money to another on demand or at a predetermined date. | A payment mechanism that guarantees payment between parties involved in trade. |
| Parties | Three parties: drawer, drawee, and payee. | Four parties: buyer, seller, issuing bank, and advising bank. |
| Payment | Payment type can be a lump sum or installments, and may or may not accrue interest if not paid by a certain date. | Payment is guaranteed by the issuing bank, and it is typically made in one lump sum. |
| Application | Often used in international trade to document a buyer's indebtedness to a seller. | Used in international trade to confirm that the buyer has provided sufficient creditworthiness to the seller. |
| Use | Entails a written document outlining a debtor's indebtedness to a creditor. | Involves a bank (the issuing bank) guaranteeing payment on behalf of the buyer. |
In summary, a bill of exchange is a written document that outlines a debtor's indebtedness to a creditor and involves three parties, while a letter of credit is a payment mechanism that guarantees payment between parties in international trade and involves four parties.
- Cheque vs Bill of Exchange
- Letter of Credit vs Documentary Credit
- Bank Draft vs Cheque
- Invoice vs Bill
- Commercial Paper vs Commercial Bill
- Loan of Credit vs Line of Credit
- LC vs Bank Guarantee
- Cheque vs Demand Draft
- Bank Draft vs Certified Cheque
- Balance of Trade vs Balance of Payment
- Credit Note vs Debit Note
- Pay Order vs Demand Draft
- Debit vs Credit
- Charge Card vs Credit Card
- Postal Order vs Money Order vs Cheque
- Cheque vs Promissory Note
- Bank Overdraft vs Bank Loan
- Gift Card vs Credit Card
- Debit Card vs Credit Card