Mitigating the Risk of Fraud in Documentary Letters of Credit

Open access


Despite the fact that documentary letters of credit (LC) are meant to facilitate the process of international trade, their specific characteristics may increase the risk of fraud while being used as the method of payment in the process of international transaction. Many factors like exclusive use of documents, geographical distance, absence of efficient prosecution, the diversity of legal system at the global level and restricted application of fraud rule can be considered as reasons for LC fraud. While billions of dollars are lost annually due to fraud in the course of LC operations, such vulnerability can result in reducing the global popularity of documentary letters of credit as the main method of payment used in international trade. Meanwhile, it is worth mentioning that fraud risk management is an unexplored territory in the practice of documentary letters of credit operation. Existing research tries to fill the gap in the study on comprehensive methods for mitigating fraud risk in operations with documentary letters of credit by using risk management theory in order to answer the question of how to manage fraud risk in LC transactions? In a quest to answer the research question, the paper is divided into two parts: the first part is dedicated to preventive measures while the latter explores responsive measures of an enterprise to manage fraud risk in LC transactions.

AICPA (2009), The Basics of Fraud Risk Management, Business Brief, vo1s. 1 & 4. Retrieved from [accessed 8 Aug 2015]

Banco Santander SA v Banque Paribas [2000] EWCA Civ 57, 1 All E.R. (Comm.) 776.

Banco Santander S.A. v Bayfern Ltd. [1999], EWHC 284 (Comm), WL 250019, Q.B.

Buckley, R. P. & Gao, X. (2002), The development of the fraud rule in letter of credit law: the journey so far and the road ahead,’ University of Pennsylvania Journal of International Law, vol. 23, no. 4, pp. 663-712.

Carey, A & Turnbull, N. (2001), ‘The boardroom imperative on internal control,’ in J. Pickford (ed.) Mastering Risk - Volume 1: Concepts, Edinburgh: Pearson Education Ltd., pp. 11-14.

Cheng, S. L. & Xiao, X. (2008), ‘Discussion on L/C fraud,’ Pioneering with Science & Technology Monthly, no. 8, pp. 131-132.

Cheng, Z. (2007), ‘The risk and its prevention in international letter of credit transactions by exporters,’ Science and Educational Innovation, no. 6(March), pp. 220-221.

Christensen, K. (2003), ’Will the UCP help electronic trade grow up?’ Documentary Credits Insight, vol. 9, no. 1(Jan-Mar).

Collyer, G. (2003), ‘Will online letters of credit rule?’ Trade Finance London, September.

Crockford, N. (1980), An Introduction to Risk Management, Cambridge: Woodhead- Faulkner Ltd.

Crouch, E. A. C. & Wison, R. (1982), Risk/Benefit Analysis, Cambridge & Massachusetts: Ballinger Publishing Company.

Demir-Araz, Y. (2002), ‘International trade, maritime fraud and documentary credits,’ Journal of International Trade Law & Regulation, vol. 8, no. 4, pp. 128-133.

Ellen, E. (1998), ‘Complex L/C frauds put banks at risk,’ DCI (ICC), vol. 4, no. 1(Winter).

Godier, K. (2000), ‘Electronic trading: new systems emerge,’ Documentary Credits Insight, vol. 6, no. 2(Spring).

-- (2001), ’Trends show a declining reliance on letters of credit,’ Documentary Credits Insight, vol. 7, no. 3(July-September)

Harfield, H. (1974), Bank Credits and Acceptances, 5th ed., New York: Ronald Press Company.

Harvard Law Review (1980), “‘Fraud in the Transaction’: Enjoining Letters of Credit during the Iranian Revolution”, vol. 93, no. 5, pp. 992-1015.

Hertz, D. B. & Howard, T. (1983), Risk Analysis and Its Applications, New York: John Wiley & Sons.

Hu, Y. (2007), ‘Soft clause of L/C and risk prevention,’ Market Modernisation, vol. 512, no. 2.

ICC (2002), Trade Finance Fraud -Understanding the Threats and Reducing the Risk, A Special Report prepared by the ICC International Maritime Bureau (Paris).

ICC Commercial Crime Services (2002), Preventing Financial Instrument Fraud - The Money Launderer’s Tool, no. 648, A Special Report prepared by ICC Commercial Crime Bureau, Essex: ICC Publishing.

Islam, S. & Ahamed, S. (2008), ’Preventing letter of credit fraud,’ DIU Journal of Business and Economics, vol. 3, no. 2.

Liu, Z. (2006), ‘Risk and prevention of bank under L/C’, Market Modernisation, vol. 459, no. 2.

Monahan, G. (2008), Enterprise Risk Management: A Methodology for Achieving Strategic Objectives, vol. 20, New York: John Wiley & Sons.

Mukundan, P. (2008), ‘Fraud with L/Cs - latest modi operandi,’ Speech of the Executive Director of the ICC Commercial Crime Services and material at the 2nd Annual International Conference on Letters of Credit organized by ICC Austria, Vienna, 29 May, 2008.

-- (2009), ‘Trade finance frauds,’ Speech and material at the 3rd Annual Conference on Letters of Credit, organized by ICC Austria, Vienna, 14 May, 2009.

Murray, D. E. (1993), ‘Letters of credit and forged and altered documents: some deterrent suggestions,’ Commercial Law Journal, vol. 98, no. 4, pp. 504-509.

Nelson, C. A. (2000), Import Export: How to Get Started in International Trade, New York: McGraw-Hill.

Ruiting, W. & Yunqing, D. (2005), ‘Study on countermeasures of L/C fraud,’ Market Modernisation, vol. 217, no. 2.

Sirius International Insurance Corp v FAI General Insurance Co Ltd. [2003] EWCA Civ 470 [2003] 1 WLR 2214.

Spencer Pickett, K. H. (2006), Enterprise Risk Management: A Manager’s Journey, Hoboken, NJ: John Wiley & Sons, Inc.

Tao, H. (2009), ‘L/C fraud and preventive measures in international trade’, Modern Business, no. 11, pp. 89-91.

Todd, P. (1996), “Can banks protect themselves against buyers’ frauds?” Documentary Credits Insight (ICC), vol. 2, no. 4 (Autumn), pp. 15-16.

UNCTAD (2003), A Primer on New Techniques Used by the Sophisticated Financial Fraudsters with Special Reference to Commodity Market Instruments, UNCTAD/ DITC/COM/39, 7 March. Retrieved from [accessed 8 Aug 2015]

-- (2009), Trade and Development Report 2009, UNCTAD/TDR/2009, Geneva: UNCTAD.

Van Houtte, H. (2002), The Law of International Trade, 2nd ed., London: Sweet & Maxwell.

Xiaorong, G. & Ruiping, N., eds (2005), Research on Internationalization of Punitive Regulations on Financial Crimes, Peking: Law Press China.

Xinqing, Y. (2007), ‘L/C Fraud and Prevention in International Trade’, Group Economy, vol. 227, no. 2.

Ying, X. & Zhiyong, Z. (2003), ‘Discussion on L/C fraud and its precautions,’ International Economics and Trade Research, no. 5, pp. 41-44.

Ying, Z. (2003), ’Documentary L/C fraud: dilemma in prevention,’ The Economist, no. 5, pp. 46-48.

Young, P. C. & Tippins, S. C. (2001), Managing Business Risk: An Organization-Wide Approach, New York: AMACOM.

Yuqun, Y. & Zhenying, C. (1999), Shipping Fraud and Legal Countermeasures, Peking: People’s Court Publisher.

Zhang, Y. (2011), ‘Can soft clauses in letter of credit transactions be considered letter of credit fraud in China?’ Nordic Journal of Commercial Law, no. 1, pp. 1-20.

-- (2012), ’Documentary letter of credit fraud risk management,’ Journal of Financial Crime, vol. 19, no. 4, pp. 343-354.

Baltic Journal of European Studies

Tallinn Law School, Department of Law, School of Business and Governance, TalTech University

Journal Information

CiteScore 2017: 0.22

SCImago Journal Rank (SJR) 2017: 0.119
Source Normalized Impact per Paper (SNIP) 2017: 0.113


All Time Past Year Past 30 Days
Abstract Views 0 0 0
Full Text Views 359 359 44
PDF Downloads 163 163 29