A Correct Interpretation of the Uniform Customs

Is there a correct interpretation of the Uniform Customs and Practice for Documentary Credits? The answer is yes,and the following article seeks to demonstrate how this correct interpretation can be reached.

Everyday,goods are moved around the world by traders using letters of credit. The banking practices involved have been compiled over the years in the UCP Rules,Uniform Customs and Practice for Documentary Credits. They are revised every 10 years to reflect needed changes made in international transactions.

The essence of the letter of credit is the trust that traders put in the credibility of the issuing banks around the world. Although the exporter often does not know the importer well,as long as the issuing bank is standing behind the transaction by assuring payment once the shipping documents - such as a bill of lading,invoice and packing list - are presented,the exporter is willing to ship the goods to the foreign importer.

In fact,the issuing banks have guarded their international credibility carefully and in most cases they have fulfilled the reasonable expectations of the foreign exporters in receiving sure payment under the letter of credit framework.

Although discrepancies in the shipping documents come up in the examination of the documents by the issuing bank,the applicant automatically approves the discrepancies because the importer is interested in receiving the goods quickly,knowing that the discrepancies cited by the issuing bank are mostly technical and do not affect the transaction in question.

Where is the Problem?

Although the vast majority of international letter of credit transactions follow the above description,there are disputes where the UCP Rules are tested by the banks,the courts and traders. Some issuing banks and importers try to use the UCP Rules to condone wrongful dishonor under the letter of credit. The correct interpretation of the UCP Rules is necessary to counteract such bad faith practices which can undermine the efficacious and beneficial use of the international letter of credit.

The ICC Banking Commission and the courts have tried to counteract such bad faith practices. Although they have not been successful all of the time,they have been quite accomplished in their efforts overall to uphold the integrity of the international letter of credit.

There is a theory of interpretation given by the late American legal scholar Ronald Dworkin in his book Justice for Hedgehogs,which is useful in our interpretation of the UCP Rules. He stated that there are two criterion in the correct interpretation of any rules. The first is fit,which means that the interpretation of the rules has to fit the current practice and the history of that practice to be valid as the correct interpretation. The second is justification. The rule has to be justified by some valid reason for its existence. When there is fit and justification to the interpretation of the specific rules,such interpretation can be considered as the correct interpretation.

In bank practice or in court decision making,there is a factor which is always present. It is common sense. When the interpretation lacks commons sense,the interpretation is likely to be faulty.

Common Sense Approach

Lord Wilberforce of the English House of Lords said in one of his opinions that although the Law Lords sometimes overrule the decisions of the lower courts,there is something that even they cannot overrule,and that is common sense.

A common mistake when interpreting rules is a tendency to simply apply the rules without thinking about the context from which the rules came and whether the facts to which a rule being applied is similar to that context. When the meaning of a rule is clear from its context,it is a much easier to apply to other situations.

In 1995,a Philippine bank presented shipping documents to the issuing bank in Hong Kong. The cover letter cited a discrepancy (acceptance letter missing) which was attached to the shipping documents. The letter of credit required the acceptance letter when shipping documents were to be presented to the issuing bank.

The issuing bank upon receipt of the cover letter with the noted discrepancy and the shipping documents contacted the applicant for his approval to make payment. The applicant refused to accept the discrepancy and after discussions between the beneficiary and the applicant,the beneficiary requested return of the shipping documents.

After three years,the Philippine bank sued the Hong Kong bank in a court in the Philippines,arguing that because the Hong Kong issuing bank did not send a discrepancy notice citing the discrepancy (acceptance letter missing) within five banking days after receipt of the documents,the issuing bank was obliged to make payment to the Philippine bank.

The Philippine trial court accepted this argument and ruled in favor of the Philippine bank. The Hong Kong bank appealed the decision to the Philippine Court of Appeals.

The Hong Kong bank argued that because the Philippine bank already knew the discrepancy cited in their cover letter (acceptance letter missing) and that it was not a curable discrepancy,there was no need for the Hong Kong issuing bank to repeat the said discrepancy back to the Philippine bank.

If the Hong Kong issuing bank had sent a refusal notice with the discrepancy (acceptance letter missing) to the Philippine bank,and sent the shipping documents back to the Philippine bank immediately after the receipt of said documents,that would have not helped the Philippine bank at all.

In a case where the negotiating bank sends a cover letter with the discrepancy cited on its face,it is a request to the issuing bank to contact the applicant for acceptance of the discrepancy so that payment could be made. And this is exactly what the issuing bank did. And after discussion between the beneficiary and the applicant,the beneficiary requested return of the shipping documents to the issuing bank which complied with the request.

If the articles of the UCP Rules can be interpreted in a mechanical manner without any regard for the context of the particular article,then the argument by the Philippine bank that the issuing bank should pay because it did not send a discrepancy notice would be correct.

But no one in banking or in the courts interprets the rules of practice or rules of law in such a nonsensical manner. Unless the interpreter knows the context of the rule in question,he cannot apply the rule to the facts before him. A mechanical application of a rule of practice or law would be without sense or justification.

The Five Banking Day Rule

In the UCP Rules,after shipping documents are received by the issuing bank,the issuing bank has five banking days to examine the documents and either make payment or send a refusal notice with the discrepancy.

The purpose of the discrepancy notice is not to provide an excuse to the applicant or the issuing bank to refuse payment. The purpose of the discrepancy notice is to inform the beneficiary of the facial discrepancy in the documents so that the beneficiary can cure or correct the said discrepancies and then re-present the documents to the issuing bank for payment.

Thus if the discrepancy is unclear as to what the discrepancy is about and how the discrepancy can be cured,the discrepancy notice is invalid under law and it is as if no discrepancy notice had been sent.

Had the issuing bank sent a discrepancy notice citing the missing acceptance letter to the negotiating bank and the beneficiary,the discrepancy would have been incurable and the negotiating bank and the beneficiary would have been unable to re-present an acceptance letter. Had the negotiating bank and beneficiary been able to present the acceptance letter,they would have presented the acceptance letter at the time of negotiation.

Thus it is not coherent to argue,as did the Philippine bank,that because the issuing bank did not send a refusal notice with the discrepancy cited,the issuing bank was obliged to make payment. The Philippine bank already knew the discrepancy and it cited the said discrepancy in its cover letter attached to the shipping documents sent to the issuing bank.

The Point in Question

In the case Philadephia Gear Corp v Central Bank,the court observed. "It would be a strange rule indeed under which a party could tender drafts containing defects of which it knew and yet attain recovery on the ground that it wa