Understanding Payment Terms in International Trade – What Every Exporter & Importer Must Know

Payment terms define the allocation of commercial risk, cash flow timing, and the trust relationship between buyer and seller. Choosing the right payment term protects your business from non-payment, financial loss, or costly disputes. Below is a practical guide to the eight most common payment terms, their pros and cons, real-world examples, and recommended practices for exporters and importers.

Quick Overview: The 8 Most Common Payment Terms

1. Advance Payment (T/T in advance) – Importer pays before goods are shipped. Exporter risk: lowest. Importer risk: highest.
2. Letter of Credit (LC) – Bank guarantee of payment if the exporter complies with documentary terms. Balances risk for both parties when documents are correctly prepared.
3. Documentary Collection (D/P or D/A) – Bank handles shipping documents and only releases them against payment (D/P) or acceptance of a bill of exchange (D/A). No bank payment guarantee; moderate risk.
4. Open Account – Goods are shipped and the importer pays later (e.g., 30, 60, 90 days). Favors importer; exporter bears credit risk.
5. Consignment – Exporter consigns goods; payment occurs only after importer sells them. High risk for exporter and typically used selectively.
6. Cash Against Documents (CAD) – Very similar to D/P; documents are released by the bank only after payment is received.
7. Bank Payment Obligation (BPO) – An electronic, data-driven alternative to LC where banks match trade data and commit to pay on successful data matches.
8. Delivered Duty Paid (DDP) – Seller delivers goods to buyer’s premises and bears all costs and risks including duties, taxes, and customs clearance. Maximum responsibility for the exporter/seller.

Detailed Explanation, With Pros & Cons

1. Advance Payment

How it works: Buyer transfers funds before shipment.

Pros for exporter: Payment secured before goods leave. No credit risk.

Cons for importer: High trust burden; importer risks non-delivery.

Typical use: First-time orders, custom manufacturing, high-risk buyers, small volumes.

2. Letter of Credit (LC)

How it works: Buyer’s bank issues LC guaranteeing payment against conforming documents (invoice, B/L, packing list, certificate of origin, etc.).

Pros: Strong bank guarantee, reduces payment/default risk for exporter and provides documentary control for buyer.

Cons: Costly (bank fees), document strictness (discrepancies lead to non-payment), requires documentary expertise.

Tip: Use confirmed irrevocable LCs where political or bank risk is a concern.

3. Documentary Collection (D/P or D/A)

How it works: Exporter’s bank forwards documents to buyer’s bank; payment (D/P) or acceptance (D/A) triggers release.

Pros: Lower bank fees than LC, some documentary control retained.

Cons: No payment guarantee from the bank; exporter carries credit risk.

4. Open Account

How it works: Seller ships goods and invoices; buyer pays within agreed credit days.

Pros for buyer: Best cash flow and lowest finance cost.

Cons for seller: High credit risk; requires good credit management or trade credit insurance.

5. Consignment

How it works: Exporter ships goods, but title/ownership and payment transfer only after the goods are sold by the importer.

Pros: Good for market testing and retailer relationships.

Cons: Highest risk for exporter; susceptible to slow sales and inventory ageing.

6. Cash Against Documents (CAD)

How it works: Buyer pays on sight in exchange for documents enabling cargo collection. Practically similar to D/P.

7. Bank Payment Obligation (BPO)

How it works: Automated matching of data through bank systems; payment obligation arises upon matching conditions.

Pros: Faster and more automated than LCs; suitable for high-volume, digitally capable traders.

8. Delivered Duty Paid (DDP)

How it works: Seller delivers goods to buyer’s premises and is responsible for import duties, taxes, customs clearance, and all logistics.

Pros for buyer: Minimal hassle and risk.

Cons for seller: Maximum cost and legal responsibility; need reliable local agents and deep knowledge of importer country regulations.

Practical Guidance: Which Term to Use When

Scenario	Recommended Payment Terms
New buyer, high risk	Advance Payment, LC (confirmed)
Established buyer, trusted	Open Account with credit checks or trade credit insurance
Large, regulated imports (buyer’s country requires)	LC (mandatory in some jurisdictions)
Testing a new market or product	Consignment (limited) or small Advance Payment
Seller wants strong documentary control	LC or Documentary Collection

Costs & Hidden Charges to Watch

• Bank charges on LCs, amendments, confirmations, and reimbursements.
• Documentary discrepancy fees and the cost/time to fix them.
• Foreign exchange conversion costs and margin spreads.
• Insurance, credit insurance premiums or factoring fees.
• Customs guarantee or bond costs when lines require them under certain terms.

Contractual Best Practices for Exporters

• Always state Incoterms 2020 together with the chosen payment terms (e.g., FOB + LC at sight).
• Define documentary requirements clearly in the sales contract (exact documents, number of originals, acceptable certificates, and language).
• Include bank fee allocation clauses (who pays advising/confirming/amendment fees).
• Specify dispute resolution, applicable law, and delivery timelines.
• Perform buyer credit checks and request trade references before offering credit terms.

Country-Specific Notes

Certain import regimes require LCs for larger imports or specific product categories. Examples (non-exhaustive): Bangladesh, Algeria, Ethiopia, Uzbekistan. Always verify local import regulations and central bank rules before agreeing on terms.

Exporter Checklist Before Shipping

1. Confirm the agreed payment term in the sales contract and pro forma invoice.
2. If using LC, verify LC terms prior to shipment and ensure documentary compliance.
3. Factor in bank fees, FX, and insurance in pricing.
4. Obtain trade credit insurance for extended open account exposures when needed.
5. Keep an audit trail of communications and document receipts to manage disputes.

Final Takeaway

Payment terms are a strategic decision: they balance commercial risk, cash flow, and customer relationships. Conservative exporters start with secure methods (Advance, LC, D/P) for new buyers, then gradually extend more favorable terms (Open Account) to proven partners. DDP and consignment are specialist choices that require operational capacity and trust.

Kivaro Global can help you structure sales contracts, review LCs, and set internal controls so your international payments are secure, transparent, and profitable.

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