Confirmation fee can be defined as charges collected by the confirming banks, against the risks they will be having to posses by confirming the letters of credit.
As I will be explaining below a confirming bank undertakes two main risk factors by adding its confirmation to the letter of credit: default risk of the issuing bank and political risk of the issuing bank’s country.
Basically, the confirmation fee is the ‘risk fee’ taken by the confirming bank.
Understanding the Confirmation Process and Confirmation Fee Reasoning:
Confirmation, is defined as an undertaking from a bank, in addition to the undertaking provided to the beneficiary by the issuing bank.
Beneficiary, by having the letter of credit confirmed to a bank which is located within the same country of himself, would like to eliminate the default risk of the issuing bank as well as political risks of the issuing bank’s country of domicile.
A confirming bank takes the default risk of the issuing bank; as well as non-payment risk of the letter of credit originated from the political risks of the issuing bank’s country.
The confirming bank, irrevocably bound himself to make a payment to the beneficiary against a complying presentation from the moment it has added its confirmation to the letter of credit.
Even if the confirming bank could not receive any reimbursement from the issuing bank, he has to make payment to the beneficiary against a complying presentation under the letter of credit which he has confirmed.
By the way, it is beneficial to remind my readers that a confirming bank could only honour or negotiate a complying presentation.
As a result, the beneficiary has to present complying documents in order to obtain funds under the letter of credit, either from the issuing bank or the confirming bank.
For this reason, the complying presentation is the key for reaching out the payment under both confirmed and unconfirmed letters of credit.
You might be wondering, why a confirming bank would take such risks to confirm a letter of credit.
The correct answer is very simple and straight forward; to make more profit.
Determinants of a Confirmation Fee:
The confirmation fee is subject to arrangement and based on the following:
- Issuing bank isk
- Country risk
- Value of the letter of credit
- Validity period of the letter of credit
The confirmation fee is usually difficult to quantify in advance, unless you have managed to establish which bank is to confirm and they have provided the information to you in advance. (1)
Examples of Confirmation Fees:
Confirmation Fee Format 1:
Exporters First Help Bank of New York confirms this credit and hereby undertakes to honor all drafts and documents presented in strict compliance with the credit terms.
Our confirmation charges USD3.120,48.
Confirmation Fee Format 2:
We shall charge our confirmation commission of 4,000000 PCT p.a., min. EUR 200.00 p.q.
p.a. : per annum (12 months or 360 days)
p.q. : per quarter (3 months)
Who should pay confirmation fees?
According to letter of credit rules all fees and charges related to credits should be paid by the applicants.
But we have learned long ago that this perfect world indication is not valid under real life situations.
In most cases applicants pay only letter of credit issuance charges and let the banks collect all the remaining fees from the beneficiaries.
As a result confirmation fees will be paid by the beneficiaries in most cases.
Sources: 1: A Guide to Letter of Credit Charges, the Institute of Export & International Trade, Reached : 24.Jan.2018