5 Common Payment Methods & Terms for International Trade

Learn all about payment methods for international trades

Contents

    To be competitive in business today, business owners need to think globally.

    To sell internationally, it's critical to offer appropriate payment methods that are safe and have favorable terms for both the buyer (importer) and the seller (exporter). 

    There are risks involved in international trade

    Importers want to receive their goods before making payment, and exporters want to be paid before they release the goods.

    This is why reliable payment methods are important.

    There are 4 main types of payment methods:

    1. Cash in Advance

    Secure

    The cash in advance method is the safest for exporters because they are securely paid before goods are shipped and ownership is transferred.

    Typically payments are made by wire transfers or credit cards. 

    This is the least desirable method for importers because they have the risk of goods not being shipped, and it is also not favorable for business cash flow.

    Cash in advance is usually only used for small purchases.

    No exporter who requires only this method of payment can be competitive.

    Cash in Advance Pros & Cons

      Pros Cons
    Buyer  No effect.

    Immediate effect on cash flow management.

    Risk of not receiving shipment.

    Little recourse if shipment doesn't arrive. Becomes insurance-heavy otherwise.

    Seller Gets paid before goods are recieved. No way to compete in the market, all competitors have this opportunity.

    2. Letter of Credit

    Safer

    A letter of credit, or documentary credit, is basically a promise by a bank to pay an exporter if all terms of the contract are executed properly. This is one of the most secure methods of payment.

    It is used if the importer has not established credit with the exporter, but the exporter is comfortable with the importer’s bank. 

    Here are the general steps in a letter of credit transaction:

    1. The contract is negotiated and confirmed.
    2. The importer applies for the documentary credit with their bank.
    3. The documentary credit is set up by the issuing bank and the exporter and the exporter’s bank (the collecting bank) are notified by the importer’s bank.
    4. The goods are shipped.
    5. Documents verifying the shipment and all terms of the sale are provided by the exporter to the exporter’s bank and the exporter’s bank sends the documents to the importer’s issuing bank.
    6. The issuing bank verifies the documents and issues payment to the exporter’s bank.
    7. The importer collects the goods.

    Letter of Credit Pros & Cons

      Pros Cons
    Buyer

    Customizable payment terms

    Payment only after shipment is received

    Most expensive payment method.

    Time-consuming

    Terms expire

    Currency risk impacts the payment heavily

    Seller

    Customizable payment terms

    Sale is secured by the Buyer's bank. (low risk)

    Strict documentation requirements

    Currency risk fluctuations impact the profit margins

    statrys business account for international trade

    3. Documentary Collection

    Safer

    A documentary collection is when the exporter instructs their bank to forward documents related to the sale to the importer’s bank with a request to present the documents to the buyer as a request for payment, indicating when and on what conditions these documents can be released to the buyer.

    The importer may obtain possession of goods if the importer has the shipping documents.

    The documents are only released to the buyer after payment has been made.

    This can be done in two ways.

    Documents Against Payment

    The exporter gives the ownership documents of an asset to their bank, which then presents them to the importer after payment is received.

    The importer can then use the documents to take possession of the merchandise.

    The risk for the exporter is that the importer will refuse to pay, and even though the importer won’t be able to collect the goods, the exporter has very little recourse to collect.

    Here's how Documents Against Payment works:

    1. The contract is negotiated and confirmed.
    2. The exporter ships the goods. The exporter gives his bank all documents confirming the transaction.
    3. The exporter’s bank forwards the documents to the importer’s bank.
    4. The importer’s bank requests payment from the importer by presenting the documents.
    5. The importer pays his bank.
    6. The importer’s bank sends payment to the exporter’s bank.
    7. The exporter’s bank pays the exporter.

    Documents Against Acceptance

    The exporter’s bank on behalf of the exporter instructs the importer’s bank to release the transaction documents to the importer.

    Here's how Documents Against Acceptance works:

    1. The contract is negotiated and confirmed.
    2. The exporter ships the goods.
    3. The exporter presents the transaction documents to their bank.
    4. The exporter’s bank forwards the documents to the importer’s bank.
    5. The importer’s bank requests payment from the importer by presenting the documents.
    6. The importer makes payment and receives the documents and collects the goods.
    7. The importer’s bank pays the exporter’s bank and the exporter’s bank pays the exporter.

    Documentary Collection Pros & Cons

      Pros Cons
    Buyer

    Cheaper than letter of credit

    Payment is made once the goods are delivered

    Relies on the seller to deliver the goods as specified. Payment is made before shipment is checked

    Seller

    Seller retains ownership of goods until payment is made

    No guarantee

    Cancellation risk

    If the buyer cannot pay, seller is then required to pay the return shipment

    4. Open Account Terms

    Risky

    An open account is a sale in which the goods are shipped and delivered before payment is due usually in 30, 60, or 90 days.

    This is one of the most advantageous options to the importer, but it is a higher-risk option for an exporter.

    Foreign buyers often want exporters to offer open accounts because it is much more common in other countries, and the payment-after-receipt structure is better for the bottom line

    Open Account Terms Pros & Cons

      Pros Cons
    Buyer Payment not due until good received.

    no effect

    Seller Increases sales No guarantee that the payment can be received and cancellations can happen at any time.

    5. Consignment and Trade Finance

    Risky

    Consignment is similar to an open account in some ways, but payment is sent to the exporter only after the goods have been sold by the importer and distributor to the end customer.

    The exporter retains ownership of the goods until they are sold.

    Exporting on consignment is very risky since the exporter is not guaranteed any payment.

    Consignment, however, helps exporters become more competitive because the goods are available for sale faster.

    Selling on consignment reduces the exporter’s costs of storing inventory.

    Read more about types of Trade Finance here.

    Consignment & Trade Finance Pros & Cons

      Pros Cons
    Buyer

    Payment is received only after the goods are sold

    Relies on good faith by the seller

    Seller

    Depending which country the good are stored, this could be a cost-saving measure

    Delays payment

    The Bottom Line

    The bottom line is that to grow your company to its maximum potential, you should consider selling internationally.

    It opens up new markets for you and helps you to stay competitive.

    Choose the payment options that are right for you and consider who you are selling to when you make your international trade payment decisions.

    When it comes to finding out which method is right for the place you're trading with, read here to learn more about region-specific aspects of international trade.

    One thing we didn't cover in this article was the absolute nightmare it is to deal with foreign currencies.

    Among all these payment methods, even if you find one that suits you, you still need to deal with foreign exchange payments.

    Looking for a way to make those payments without dealing with the headache of exchanging your currency all the time?

    Create an account with Statrys and you'll get a multi-currency business account based in Hong Kong that gives you the freedom to make payments with 11 different major currencies natively from your business account.

    FAQs

    What are the common payment methods for international trade?

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    What is documentary credit / letter of credit?

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    What is documentary collection?

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