Standby LCs mimic independent guarantees and were mainly issued by US banks predominantly during the time when issuance of guarantees seldom occurred in the US. Although US banks were never prohibited from issuing independent guarantees, in 1996 the US Office of the Comptroller of the Currency1 expressly permitted them to do so.
Three years later, the OCC permitted US banks to issue dependent financial undertakings,although here to, they had been able to do so in connection with other bankingtransactions in which they were involved. ISP98 was promogulated by the Institute of International Banking Law & Practice, endorsed by the ICC (ICCPub. 590), and US banks started issuing their standbys subject to ISP98. Banks in much of the rest of the world gradually did the same as knowledge of the rules grew. Prior toISP98, despite its limitations, UCP was used extensively for issuance ofstandbys since it reinforced the independence and documentary character ofletters of credit. But UCP was never intended to govern standby letter ofcredit practice.
UCP600 Article 1(Application of UCP) states in part: “The Uniform Customs and Practice forDocumentary Credits, 2007 Revision, ICC Publication No. 600 (“UCP”) are rulesthat apply to any documentary credit (“credit”) (including, to the extent to which they may be applicable, any standbyletter of credit) when the text of the credit expressly indicates that it issubject to these rules.”
The word “any” implies that a standbyof any form, i.e., performance, advance payment, bid bond/tender bond, financial, etc,could be issued subject to UCP600.
The 2007 UCP revision made few changesrelevant to standbyswhile carrying over the intentof UCP500.
In fact,even before UCP600,it was long established that the 21-daypresentation period rule was not applicable to standbys. The ICCBanking Commission in its Opinion R168 (1987-1988) refused to apply the 21-day presentation period rule to a standbyunder UCP400: “The commission decidedthat under a standby credit Article 47(a) of UCP 400 does not apply,particularly where it is only a copy document which is, therefore, not atransport document.”
During the 2007 revision process,some previously issuedICC opinions, such as this one, were thoughtto merit incorporation in the UCP rules.
Unlike ISP98,which was draftedfor standby LCs and therefore caters to the myriad specificsituations surrounding standby LCs, UCP only accommodates issuance ofstandby LCs. There are no provisions in UCP to cover situations like extend or pay, requeststhat the beneficiary issue its own undertaking to another (counter undertakings), and thelike. It should be noted that the word “standby” appears only once in the textof the UCP600 rules.
Only a fewUCP600 articles apply to standbys and some articles are inappropriate orotherwise incompatible with standby practice, tend to work contrary to theintentions of the parties, and, if applied,cause confusion in their interpretation and application. UCP600Article 1 aptlyuses the phrase “to the extent applicable …” tosignal this.
Examples of UCP600articles and topicsthat do not align with standby practiceand tend to causeconfusion include:
UCP600 Article14(d) states:
“Data in a document, when read incontext with the credit, the document itself and international standard bankingpractice, need not be identicalto, but must not conflictwith, data in that document, any other stipulated documentor the credit.”
Documents requested to be presentedunder commercial LCs would normallyrelate to a shipment and therefore are expected not toconflict with each other. The same cannot be said about standbys.
Documents under a typical standby need not necessarily be free ofconflict. This is because the documents may relateto different underlying obligations. In case of default,documents in fact may be expected to be inconsistent with one another;a mix of documents requiring performance together with those indicating default. To avoidconfusion, this article requires attention.
UCP600 Article36 states:
“A bank assumesno liability or responsibility for the consequences arising out of the interruption of its business byActs of God, riots, civil commotions, insurrections, wars, acts of terrorism,or by any strikes or lockouts or any other causes beyond its control. Abank will not, upon resumption of its business, honour or negotiate under a creditthat expired during suchinterruption of its business.”
The defaultposition of UCP is that the beneficiary bears the risk of its inability to drawwithin the prescribed time due to a force majeure event. It fits reasonablywell for a commercial LC where the beneficiary (usually the seller) controlsthe goods – it holds the documents of title - and therefore the discrepancy isprobably waived. This UCP position, however, is opposite to standby practice inthat standby beneficiaries are likely unwillingto bear the risk of forfeiture of their rights due to closure of asolvent issuer. It is due to this reason that this UCP article is invariablyomitted from standbys issued under UCP600. Text which has been used to modifythe article might look like the following(which is in line withtreatment under ISP98):
“Article36 under UCP 600 is modified as follows: If the Letter of Credit expires whilethe place for presentation is closed due to events described in said Article,the expiry date of this Letter of Credit shallbe automatically extendedwithout amendment to a date thirty (30) calendar days after the placefor presentation reopens for business.”
UCP600 Article 29 allows for extension of a credit’s expiry date andlast day for presentation to the first following bankingday (unless it is force majeure situation), if these dates fall on a day when the bankto which presentation is to be made is ordinarily closed(eg, a weekend day). This rule does notapply to latest date of shipment and other dates specified in the credit.
This provisionis logical for commercial letters of credit which usually require presentationof documents that are linked to, and reflect delivery of, goods or services. Itmakes sense to omit the “latest shipment date” from the provisions of this article,as it has a materialimpact on the buyer who might not be able to secure possessionof the goods at the expected time. Non-timely receipt of the goods couldpotentially result in the buyer not being able to sell the goods. For instance,shipment of seasonal goods or perishable items.
In addition toan expiry date, standbys sometimes contain deadlines for presentation ofdemands in instalments, for instance. Where such deadlines are present in astandby, there is no reason not to extend these dates and the extension shouldapply to them as well. For example, assume a standby requires presentation of afirst instalment on a Sunday (when the issuer is closed) and thereforepresentation is attempted on the next banking day. Under UCP600this would be a discrepancy (which departs from standby practice) since the scope of theextension rules only applies to expiry dates and not to other deadlines.
There is no distinction in UCP between a drawing for less than thefull amount and multiple drawings insituations when there is a drawing for less than the full amount. A drawing forless than the full amount would be unwelcome in most casesof a commercial LC where partial shipments are prohibited.
In standby practice, a prohibition of partial drawings means thatonly one drawing is permitted which must be in the full amount. Use of the term ‘multipledrawings prohibited’ means that only one drawing is permitted which can be forless than the full amount.
A standby LC issued underUCP must expressly exclude the relevantUCP600 Article 31 (PartialDrawings or Shipments) and insert suitable replacement text to avoid confusion.Text for such modification might state:
“Partial and multiple drawingsare allowed hereunder. The amount that may be drawn by beneficiaryunder this Letter of Credit shall be automatically reduced by the amount of anypayments made through Issuing Bank referencing this Letter of Credit.”
UCP600 Article 32 contains a suitable provision for commercialletter of credits on this matter. It providesthat if a letter of credit specifies instalment payments, and if an instalment is not drawn,the credit ceases to be available for that and any subsequentinstalments.
The rationale behindthis provision is touched upon in the ICC’s COMMENTARY ON UCP 600: “Theview of the Drafting Group and the majority of ICC national committees ... wasthat by including a specific schedule in the credit there is a definiterequirement for either a drawing to be made or goods to be shipped within aspecific period. Failure on the part of the beneficiary to do so could resultin a financial or other risk to the applicant. Therefore, there was a need fora penalty if the beneficiary does not comply with the instalment schedule.”2
For a commercial credit, failure to draw would generally mean that the beneficiary has failed to make a required shipment. However, the samemay not be applicable for a standby. A standby supporting an obligation to pay (eg, rent to be paid every month)in installments wouldnormally be drawnupon when there is a failureto make a direct payment. The UCP rule, if applied, would mean that the creditceases to be available if it is not drawn as per the instalment schedule. Thisdeparts from general standby practice and defeats the whole purpose of having astandby as a secondary payment vehicle. It is for this reason that this articlemust be excluded or modified in a standby issued subject to UCP 600.
It should be noted that ISBP745 Paragraph C15(a)(i) elaborates onthe phrase “given period” that is used in this article. It states: “Givenperiods are a sequence of dates or timelines that determine a start date and end date for each instalment.” It gives an example of an instancewhere this standardcould be applied. ISBP745Paragraph C15(b)(i) further provides:
“When a credit indicates a drawingor shipment schedule by only indicating a number of latest dates, and not given periods(as referred to in paragraphC15) (a) (i)): i. this is not an instalment schedule as envisagedby UCP 600, and article 32 will not apply ”
Treatment of transferable credits under UCP600departs considerably from what is expected in standbypractice.
Multiple transfers
Whereas it iscommon practice to have standbys transferred multiple times, it is not allowedfor in UCP600 unless explicitly modified. UCP600 Article 38(d) states in part:“A transferred credit cannot be transferred at the requestof a second beneficiary to any subsequent beneficiary. The first beneficiaryis not to be considered a subsequent beneficiary.”
An example of a standbywhich requires transfermultiple times is when the beneficiary may be an indenture trustee who could bereplaced numerous times over the life of the standby. A clause to modifyUCP600’s default provision could state:
“This Letter of Credit is transferable without charge any number of times, but only in the amountof the full unutilized balance hereof and not in part and with the approval of the AccountParty which consent shall not be unreasonablywithheld, conditioned or delayed.”
Partial transfers
Unlike commercial letters of credit, standby LCs rarely requirepartial transfers and therefore ISP98 does not specifically allow for partialtransfer. In a commercial letterof credit, there might be multiplesuppliers and/or the original beneficiary may retain the right to draw whereasa typical standby would involve transfer of the entire right to draw.
Standby credits issuedsubject to UCP600likely contain detailedclauses which modifythe UCP rules. ISP98 rules on transfer of a standby are verycomprehensive and therefore rarely require modification unless there areexceptional circumstances.
Unlike documentscalled for in commercial LCs which have importance themselves such as a bill oflading which could be a document of title and is required to collect goods fromthe carrier, documents presented under a standby LC typically have no intrinsicvalue. Failure to dispose of them as requestedby the presenter does not have any material impact. ISP98 Rule 5.07 aligns withthis practice. Under UCP600 Article 16(f), failure to follow disposalinstructions would mean that the issuing bank “shall be precluded from claimingthat the documents do not constitute a complying presentation.”
To address matters not covered by the UCP, some standbysissued subject to these rules - especially in the US - expresslystate that those matters shall be governedin accordance with the laws of the issuer’scountry. I have seen standbys from the US with this clause or similar:
“Unless otherwise expresslystated herein, this Letter of Credit is subject to the UniformCustoms and Practice forDocumentary Credits (“UCP”), 2007 Revision, International Chamber of CommercePublication No. 600. Matters not covered by the UCP shall be governed andconstrued in accordance with the laws of ”
Today, ISP98 is largely considered the preferred set of rulesfor standbys. However,a small number of standbysin the US and other parts of the world continue to be issued subject to UCP600.This can predominantly be attributed to:
Nonetheless, adoptionof ISP98 has grown over the years and continues to do so at a fast pace.
Even though UCPis not suitable for issuance of standby LCs and suggestions were made byseveral ICC National Committees during the 2007 revision processto delete referenceto standbys, it remained.The UCP600 drafting group felt that there were still a significant number ofstandbys that continued to be issued under UCP600. It also contended that evenif reference to standbys was removed, banks would continue to issue standbyssubject to UCP6004. UCP, not being law, could not prohibit issuanceof a standby subject to its rules anyway. Viewed a different way, nothingprevents a bank from issuing a commercial LC subject to ISP98, but why wouldanyone do so?
Unless very carefully drafted, standbys issuedunder UCP are susceptible to misinterpretation and couldcause considerable uncertainty, ambiguity, and hence be very problematic. ICCOpinion R303 (1998/99) – issued when UCP500 was in force, but still applicableto UCP600 – cautions that: “Care is needed in the use of standbys in acommercial setting, for which additional training may be necessary. Moreover,use of the UCP with a standby imposes additional questions which must be duly considered.”
A comment made in DOCUMENTARY CREDITS UCP 500 AND 400COMPARED (ICC
Publication No 511) advises that ICC NationalCommittees (NCs) “mustacknowledge that not all the Articles in the UCP apply to aCommercial Credit or to a Standby Credit and that a majority of the Articles donot apply to the Standby Credit. It is recognized that the parties to theCredit may wish to exclude certain Articles of the UCP from a specific type ofCredit ”5
With the exception of the ICC Banking Commission’s stance on the UCPtransport articles’ applicability for a standby (OpinionR168 issued underUCP400 and equallyapplicable to UCP600), UCP does notgive any guidance as to which articles are to not apply to a standby. Standbysby their nature are very flexible and could be applied to transactions thatrequire presentation of commercial documentseg, transport documents, insurance documents, etc. Therefore, it becomes very difficult, if not impossible, to generalise theapplicability of the articles. Another comment contained in DOCUMENTARY CREDITSUCP 500 AND 400 COMPARED (ICC Publication No 511) disclosed that during this revision process“NCs commented the possibility of identifying the individual articles applicable to the StandbyCredit. It was decided that that this request could not be met.”6
It should be noted that, by virtue of UCP600 Article1, an article that applies cannot be deemed inapplicable. To excludeapplication of a specific UCP rule, the credit must do so expressly.
In the transition from UCP500 to UCP600, no major changes were madeto better suit the UCP rules forstandbys. It is a very tight rope to walk when it comes to handling standbysissued subject to UCP. Utmost care and consideration must be taken when contemplating issuance of a standby subjectto UCP and UCP standbysshould be handled by experienced practitioners.
1 US Office of the Comptroller of the CurrencyInterpretive Rulings, 12 CFR Sec. 7-1016 and 7-1017, 61 FR 4849, 9 Feb. 1996.
2 COMMENTARY ON UCP 600, ICC Publication No. 680, p. 141.
3 “Standby Letters of Credit and the ISP 98: A European Perspective” by Dr. Jens Nielsen & Nicolai Nielsen,BANKING & FINANCE LAWREVIEW, p. 224.
4 COMMENTARY ON UCP 600, ICC Publication No. 680, p. 12.
5 “Opinions of the ICC BankingCommission on queriesrelating to UniformCustoms and Practicefor Documentary Credits (UCP)1987-1988” edited by Bernard Wheble, p. 3.
