Loading the player...

What is a 'Standby Letter of Credit - SLOC'

A standby letter of credit (SLOC) is a guarantee of payment issued by a bank on behalf of a client that is used as "payment of last resort" should the client fail to fulfill a contractual commitment with a third party. Standby letters of credit are created as a sign of good faith in business transactions and are proof of a buyer's credit quality and repayment abilities. The bank issuing the SLOC performs brief underwriting duties to ensure the credit quality of the party seeking the letter of credit, then sends notification to the bank of the party requesting the letter of credit (typically a seller or creditor).

BREAKING DOWN 'Standby Letter of Credit - SLOC'

A standby letter of credit shows a company’s credit quality and ability to repay loans. Although a SLOC is not intended for use, it helps fulfill business obligations in case the business stops operations, cannot pay its vendors or becomes insolvent.

Small businesses often face difficulty when securing financing. For this reason, standby letters of credit may be especially beneficial for encouraging investors to lend money to a company. In case of default, investors are assured they will be paid principal and interest from the bank through which the SLOC is secured.

Obtaining a Standby Letter of Credit

When requesting a SLOC, a business owner proves to the bank he is capable of repaying the loan. Collateral may be required to protect the bank in case of default. The bank typically provides a letter to the business owner within one week of receiving documentation. The business owner must pay a SLOC fee for each year that the letter is valid. The fee is typically 1-10% of the SLOC value. If the business owner meets the criteria outlined in the contract before the due date, the business owner can cancel the SLOC without further charges.

Examples of Standby Letters of Credit

A financial SLOC, the most common type, is typically used in international trade or other high-value purchase contracts where litigation or other non-payment actions may not be feasible. A financial SLOC guarantees payment to the beneficiary if criteria outlined in the contract are left unfulfilled. For example, an exporter sells goods to an overseas buyer who guarantees payment in 30 days. When the payment does not appear by the deadline, the exporter presents the SLOC to the importer’s bank and receives the payment.

A performance SLOC ensures the time, cost, amount, quality of work and other criteria are fulfilled in a manner acceptable to the client. The bank pays the beneficiary if any of the written obligations are unmet. For example, a contractor guarantees a construction project will be finished in 90 days. If work remains incomplete after the 90-day period, the client can present the SLOC to the contractor’s bank and receive the payment due.

RELATED TERMS
  1. Letter Of Credit

    A letter from a bank guaranteeing that a buyer's payment to a ...
  2. Sight Letter Of Credit

    A letter of credit that is payable once it is presented along ...
  3. Transferable Letter Of Credit

    A letter of credit that permits the beneficiary of the letter ...
  4. Standby Line of Credit

    A sum of money, not to exceed a predetermined amount, that can ...
  5. Standby Underwriting (Standby)

    A type of agreement to sell shares in an initial public offering ...
  6. Bank Confirmation Letter - BCL

    A letter confirming that a line of credit has been secured from ...
Related Articles
  1. Small Business

    Letter of Credit

    A letter of credit is a document from a bank promising to pay the holder a certain amount if the holder fulfills certain obligations. Sellers in commercial transactions often require buyers to ...
  2. Small Business

    How To Increase Your Appeal To Prospective Lenders

    Making a business eligible for loans/credit cards at the best possible rates requires crafting an excellent credit profile through the smart use of credit.
  3. Investing

    Financial Analyst Cover Letters That Get You Hired

    Crafting a strong cover letter for a job can increase your chances of standing out from the crowd and landing an interview. Some techniques that help.
  4. Investing

    Are Hedge Fund Letters More Valuable Than 13Fs?

    13F filings can be a useful way to track hedge fund investment strategies, but sometimes it pays to go directly to the fund leaders themselves.
  5. Small Business

    Small Business Loan Vs Line of Credit: How They Differ

    Understand the differences between a small business loan and a line of credit, and learn some of the most appropriate uses for each form of financing.
  6. Small Business

    The Small Business Jobs Act: Make It Work For You

    Understanding how to manage business credit is the key to obtaining small business loans.
  7. Personal Finance

    6 Ways To Build Credit Without A Credit Card

    It's definitely possible – if a bit more complicated – to build a credit history without traditional credit cards. Just follow these steps.
  8. Personal Finance

    Analyzing a Career in Credit Analysis

    If you're a number-cruncher and responsibility doesn't scare you, this could be the job for you.
  9. Personal Finance

    Common Interview Questions for Credit Risk Analysts

    Discover some of the typical questions asked in interviews for a position as a credit risk analyst, along with suggestions for good answers.
  10. Personal Finance

    The Importance Of Your Credit Rating

    A great starting point for learning what a credit score is, how it is calculated and why it is so important.
RELATED FAQS
  1. How would a standby letter of credit be used during an export transaction?

    Learn what a standby letter of credit is and how it works, as well as how a standby letter of credit is typically used for ... Read Answer >>
  2. What are the different types of letters of credit?

    Learn more about the different types of letters of credit that are used to facilitate exchanges between parties that might ... Read Answer >>
  3. When do I need a letter of credit?

    Learn more about the function of a letter of credit for both the buyer and the seller, and get some examples showing when ... Read Answer >>
  4. What's the difference between a bank guarantee and a letter of credit?

    Letters of credit ensure that a transaction proceeds as planned, while bank guarantees reduce the loss if the transaction ... Read Answer >>
  5. What is a bank's legal liability when issuing a letter of credit?

    Learn the responsibility of banks that issue letters of credit Letters of credits ensure payment on transactions between ... Read Answer >>
  6. When are you legally required to get a letter of credit?

    Learn how exporters or importers who deal in international trade use letters of credit to ensure that transactions are safe, ... Read Answer >>
Hot Definitions
  1. Cryptocurrency

    A digital or virtual currency that uses cryptography for security. A cryptocurrency is difficult to counterfeit because of ...
  2. Promissory Note

    A financial instrument that contains a written promise by one party to pay another party a definite sum of money either on ...
  3. SEC Form 13F

    A filing with the Securities and Exchange Commission (SEC), also known as the Information Required of Institutional Investment ...
  4. Fixed Asset

    A long-term tangible piece of property that a firm owns and uses in the production of its income and is not expected to be ...
  5. Absolute Advantage

    The ability of a country, individual, company or region to produce a good or service at a lower cost per unit than the cost ...
  6. Nonce

    Nonce is a number added to a hashed block, that, when rehashed, meets the difficulty level restrictions.
Trading Center