A versatile instrument to handle international obligations
Bank Guarantees are one of the most versatile and widely used payment mechanisms in international business, covering contractual obligations and providing high security. Nevertheless, many corporate customers may consider these instruments administratively cumbersome and difficult to procure.
A bank guarantee is a bank or other lending institution’s promise that the bank will cover the loss if a borrower defaults on a loan or obligation under a contractual agreement. Note that a bank guarantee is different from a letter of credit. Please note that one cannot “lease or borrow” such an instrument! – One needs sufficient funds or a credit line to enable a bank to issue a bank guarantee.
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How does a BG (or SBLCs) work
A bank guarantee represents a more significant contractual obligation for banks than letters of credit. Like a letter of credit, it grants a sum of money to a beneficiary. However, unlike a letter of credit, the sum is only paid if the opposing party does not fulfill the stipulated obligations under the contract. This can essentially insure a buyer or seller from loss or damage due to nonperformance by the other party in a contract.
These financial instruments protect both parties in a contractual agreement from credit risk. For instance, a property developer and its construction company may enter into a contract to build a car park. Both parties may have to issue bank guarantees to prove their financial bona fides and capability. If the construction company fails to deliver planning permission within a specified time, the property developer notifies the bank, paying the company the amount specified in the document.
Which Type of Bank Guarantee or Letter-of-Credit is right for me?
Bank Guarantees and Standby-Letters-of Credit are still quite common in international business and cover a broader range of individual needs. So it doesn’t come as a surprise that various forms exist.
Please speak to our advisors to determine which type is the most suitable for your business needs. One may find additional information on our dedicated website at Redchilli Capital, our division for Corporate Finance of TAXEDO GROUP.
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