• FURTHER READING:

A letter of credit is a bank's written commitment ensuring that payment will be made to a seller of goods according to conditions specified by the buyer. A letter of credit allows the seller to draw on the issuing bank for payment. The term "letter of credit" was legally defined in the case of American Steel Company v. Irving National Bank as: "A letter requesting one person to make advances to a third person on the credit of the writer." The decision went on to state that letters of credit may be general or specific. "They are general if directed to the writer's correspondents generally. They are special if addressed to some particular person." Letters of credit involve four parties: the buyer, and the buyer's bank that issues the letter of credit, the seller, and the seller's bank.

Letters of credit work through the following steps:

1. A buyer...