Published — February 7, 2021
The following post does not create a lawyer-client relationship between Alburo Alburo and Associates Law Offices (or any of its lawyers) and the reader. It is still best for you to engage the services of your own lawyer to address your legal concerns, if any.
Also, the matters contained in the following were written in accordance with the law, rules, and jurisprudence prevailing at the time of writing and posting, and do not include any future developments on the subject matter under discussion.
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The “independence principle” assures the seller or the beneficiary of prompt payment independent of any breach of the main contract and precludes the issuing bank from determining whether the main contract is actually accomplished or not.
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The “Fraud Exception Principle” is the exception to the Independence Principle.
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Under the fraud exception principle, the beneficiary may be enjoined from collecting on the letter of credit if the beneficiary committed fraud by substituting fraudulent documents even if on their face the documents complied with the requirements.
A letter of credit is a written instrument whereby the writer requests or authorizes the addressee to pay money or deliver goods to a third person and assumes responsibility for payment of debt therefor to the addressee.
A letter of credit, however, changes its nature as different transactions occur and if carried through to completion ends up as a binding contract between the issuing and honoring banks without any regard or relation to the underlying contract or disputes between the parties thereto.
Credits, by their nature, are separate transactions from the sales or other contract(s) on which they may be based and banks are in no way concerned with or bound by such contract(s), even if any reference whatsoever to such contract(s) is included in the credit. Consequently, the undertaking of a bank to pay, accept and pay draft(s) or negotiate and/or fulfill any other obligation under the credit is not subject to claims or defenses by the applicant resulting from his relationships with the issuing bank or the beneficiary. A beneficiary can in no case avail himself of the contractual relationships existing between the banks or between the applicant and the issuing bank.
Thus, the engagement of the issuing bank is to pay the seller or beneficiary of the credit once the draft and the required documents are presented to it. The so-called “independence principle” assures the seller or the beneficiary of prompt payment independent of any breach of the main contract and precludes the issuing bank from determining whether the main contract is actually accomplished or not. Under this principle, banks assume no liability or responsibility for the form, sufficiency, accuracy, genuineness, falsification or legal effect of any documents, or for the general and/or particular conditions stipulated in the documents or superimposed thereon, nor do they assume any liability or responsibility for the description, quantity, weight, quality, condition, packing, delivery, value or existence of the goods represented by any documents, or for the good faith or acts and/or omissions, solvency, performance or standing of the consignor, the carriers, or the insurers of the goods, or any other person whomsoever.
However, is there an exception to the Independence Principle?
Yes.
In the case of Transfield Philippines, Inc. v. Luzon Hydro Corporation, Australia And New Zealand Banking Group Limited and Security Bank Corporation (G.R. NO. 146717, November 22, 2004), the Court explained that:
Most writers agree that fraud is an exception to the independence principle. Professor Dolan opines that the untruthfulness of a certificate accompanying a demand for payment under a standby credit may qualify as fraud sufficient to support an injunction against payment. The remedy for fraudulent abuse is an injunction. However, injunction should not be granted unless: (a) there is clear proof of fraud; (b) the fraud constitutes fraudulent abuse of the independent purpose of the letter of credit and not only fraud under the main agreement; and (c) irreparable injury might follow if injunction is not granted or the recovery of damages would be seriously damaged.
Thus, the “Fraud Exception Principle” is the exception to the Independence Principle. It provides that the untruthfulness of a certificate accompanying a demand for payment under a standby letter of credit may qualify as fraud sufficient to support an injunction against payment.
Under the fraud exception principle, the beneficiary may be enjoined from collecting on the letter of credit if the beneficiary committed fraud by substituting fraudulent documents even if on their face the documents complied with the requirements.
This principle refers to fraud in relation with the independent purpose or character of the Letters of Credit and not only fraud in the performance of the obligation or contract supporting the letter of credit.
Alburo Alburo and Associates Law Offices specializes in business law and labor law consulting. For inquiries, you may reach us at info@alburolaw.com, or dial us at (02)7745-4391/0917-5772207.
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