The principle of autonomy of the letter of credit (L/C) in UCP 600. The financial transaction is largely autonomous from the underlying sales transaction because the bank’s duty to pay arises on the presentation of conforming documents, not on the delivery of the products

The autonomy principle of letter of credit in UCP 600

The financial transaction is largely autonomous from the underlying sales transaction because the bank’s duty to pay arises on the presentation of conforming documents, not on the delivery of the products[1]. The autonomy principle refers to this feature of documentary credits. Articles 4 and 5 of UCP 600 specifically state that the credit transaction is distinct from the sales contract. As a result of this concept, the outcome of the underlying transaction has no bearing on the payment of the credit, thus a payment on the documents may be made even if the items never arrive and the buyer is forced to pursue damages from the carrier.

Exception of Fraud

Generally, banks are not obliged to pay availing credit if the presented document is fraudulent. The cases of fraud usually involve banks and are very rare to reach the courts. Usually, banks prefer to resolve these issues in private. The courts have held that the holder of a bill under credit cannot enforce the credit only for the reason of fraudulent acts committed by the seller. In English courts, where fraud cases are reported, only one case has been considered for a temporary restraint order. In Australia, courts have been asked to consider cases where there has been established fraud.

Comments on the principle

The autonomy principle gains a unique attraction as a financing instrument

The autonomy of letter of credit has allowed them to be an authentic part of international trade. This principle has gained them a unique attraction as a financing instrument. A letter of credit is specific documentation that a bank needs to provide to a client for the facility of credit. It must agree with the terms of the transaction and be fully complied with. If the documents fail to meet the requirements of the UCP 600 or the terms of the loan, the banks will not be obligated to pay the beneficiary.

There is still controversy about exceptions to the principle

There were many studies that recognized that “Fraud” was the only exception to the principle of letter of credit. However, many studies also pointed out cases in which courts have asserted other possible scenarios where the autonomy principle is superseded. According to the rulings on Rafsanjan Pistachio Producers Co-operative v. Bank Leumi (UK) Plc and KBC Bank v. Industrial Steels (UK) Ltd., A fraudulent misrepresentation by a beneficiary can result in an injunction to prevent the recipient from claiming payment.

In Canada, the parties can also contract out of the autonomy principle by stipulating that the creditor will have to prove the applicant’s liability. This is because the obligation to prove the claim is part of the credit agreement.

It is pointed out that there are several exceptions besides “Fraud”: Avoidance of the Underlying Contract; Nullity; Illegal Underlying Transaction…

Difficult to distinguish the line between the fraud exception and a breach of the underlying contract

In reality, fraud has never been separate grounds for denying payment. Since fraud invariably involves documents, an unconformity with the credit often causes, causing the issuer to deny payment in the first place under the strict compliance doctrine. Other than the fraud rule should be based on the premise of total academics argue the failure of consideration. That makes it difficult to distinguish the line between the fraud exception and a breach of the underlying contract[2].

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[1] Felicity Monteiro, “Documentary Credits: The Autonomy Principle and the Fraud Exception: A Comparative Analysis of Common Law Approaches and Suggestions for New Zealand”, p. 147.

[2] Roberto Luis Frias Garcia, Mexican Law Review, Volume 3, Number 1, “The autonomy principle of Letters of Credit”, p. 95.