04-04-2010, 04:46 AM
Dear
Letter of credit (L/C) is a banking instrument used usually for import purpose. However, it can also be opened for local procurement.
L/C principally provides assurance to supplier for the safety/security of his payment against the goods purchased/imported from him since there is an involvment of a bank from buyer's side (also from seller's side) that ensures the underlying payment.
Typically when goods are purchased through LC, companies open the relevant LC's account in general ledger (or subledger where all LCS are controlled through one control account). All LC opening charges (usually paid to bank) are debited to this account. All other expenses related to import/purchase eg insurance in transit, freight, non-refundable taxes and duties and other charges are also debited to LC account. Upon delivery of goods, the cost of goods agreed and invoiced from seller are also debited to LC account and credited to creditors account.
In case payment is made from own source upfront, normally bank does not charge any mark up; however, where due to availability of credit lines, payment is made by bank on behalf of importer/buyer, the bank also charges mark up on such financing. IAS-2 does not allow including such mark up in the cost of inventories, so it is not debited to LC account as well.
As soon as all imported/procured goods or inventories are received and all costs are debited to LC account, and nothing remains pending; then LC account is closed by transferring total cost to related inventories account.
Eventually, after all debit and credit, LC account is closed with nil outstanding balance and final entry remains to debit inventories against bank payment or bank loan (when bank makes payment) or creditors (if payment is pending for some reason).
LC is a big topic and above paras are a very brief outline. Try to find some material from internet as well.
Regards,
Letter of credit (L/C) is a banking instrument used usually for import purpose. However, it can also be opened for local procurement.
L/C principally provides assurance to supplier for the safety/security of his payment against the goods purchased/imported from him since there is an involvment of a bank from buyer's side (also from seller's side) that ensures the underlying payment.
Typically when goods are purchased through LC, companies open the relevant LC's account in general ledger (or subledger where all LCS are controlled through one control account). All LC opening charges (usually paid to bank) are debited to this account. All other expenses related to import/purchase eg insurance in transit, freight, non-refundable taxes and duties and other charges are also debited to LC account. Upon delivery of goods, the cost of goods agreed and invoiced from seller are also debited to LC account and credited to creditors account.
In case payment is made from own source upfront, normally bank does not charge any mark up; however, where due to availability of credit lines, payment is made by bank on behalf of importer/buyer, the bank also charges mark up on such financing. IAS-2 does not allow including such mark up in the cost of inventories, so it is not debited to LC account as well.
As soon as all imported/procured goods or inventories are received and all costs are debited to LC account, and nothing remains pending; then LC account is closed by transferring total cost to related inventories account.
Eventually, after all debit and credit, LC account is closed with nil outstanding balance and final entry remains to debit inventories against bank payment or bank loan (when bank makes payment) or creditors (if payment is pending for some reason).
LC is a big topic and above paras are a very brief outline. Try to find some material from internet as well.
Regards,
