Letters of Credit, Bank Guarantees, and Other Trade Finance Instruments

A Latin American SMB negotiating its first import order, or its first export contract with a US buyer, hits a decision before signing anything: which instrument to use for payment, and which guarantee to demand or accept if something goes wrong. The letter of credit is the best known option, but it is neither the only one nor always the right fit.

In Soulbit Academy we lay out the seven instruments a company runs into when paying or collecting in cross-border trade: documentary letter of credit, documentary collection, bank guarantee or demand guarantee, standby letter of credit, advance payment, open account, and escrow. Each one splits the risk between buyer and seller differently.

Which trade finance instruments exist for cross-border payments

A company trading internationally can choose among seven instruments to pay for and secure a deal: documentary letter of credit, documentary collection, bank or demand guarantee, standby letter of credit, advance payment, open account, and escrow. What separates them is who carries the risk of nonperformance and whether a bank steps in to reduce it.

Picking the wrong instrument has a measurable cost. The global trade finance gap reached USD 2.5 trillion in 2025, about 10% of world trade, according to the 2025 Asian Development Bank (ADB) Trade Finance Gap Survey. The same survey found that SME financing rejection rates fell to 41% in 2025, down from 45% in 2023, but still the highest of any company size.

Instrument	Who carries the risk if the other party defaults	Does a bank get involved?	Relative cost (illustrative reference)	Typical use case
Documentary letter of credit	The bank only pays if the seller presents compliant documents	Yes, issuing and advising bank	Medium to high: opening and negotiation fees	New or higher-risk supplier
Documentary collection	The buyer can refuse to pay while goods are already in transit	Yes, remitting and collecting bank, with no payment guarantee	Low: only a document-handling fee	A relationship with some trust but no full guarantee
Bank or demand guarantee	The guarantor bank pays on demand, without arguing the cause	Yes, guarantor bank	Medium: a fee over the guaranteed amount	Backing a contract, a tender, or an advance
Standby letter of credit	The bank only pays if the applicant defaults on the underlying obligation	Yes, issuing bank	Medium: issuance and maintenance fees	Backing contract performance or tenders
Advance payment	The buyer carries the risk if the seller never delivers	Not necessarily	Low: no bank guarantee fee	An already proven relationship
Open account	The seller carries the risk if the buyer never pays	Not necessarily	Low: no bank guarantee fee	A repeat buyer with a good payment record
Escrow	The third party releases funds only if the agreed condition is met	Not always; can be a non-bank third party	Medium: escrow agent fee	Deals with milestones or verifiable conditions

Documentary letter of credit: the guarantee the issuing bank requires

A documentary letter of credit is a payment commitment the buyer's bank issues in favor of the seller, conditioned on the seller presenting shipping documents that match the sale contract exactly. The bank does not inspect the goods; it checks that the documents match what was agreed, word for word.

The rules governing this instrument across 175 countries sit in the Uniform Customs and Practice for Documentary Credits (UCP 600), published by the International Chamber of Commerce (ICC) and in force since July 1, 2007. Its 39 articles set out, among other things, when a bank can reject documents as noncompliant and how much time it has to do so.

How much does opening a letter of credit cost for an SMB?

There is no single fee: every bank sets its own charge based on the buyer's risk and the destination country. As an illustrative reference with no official source behind it, the market commonly cites a range of 1% to 3% of the covered amount for opening and negotiation fees, plus issuance time that can run from several days to two weeks.

A full worked example, with composite figures compared against advance payment in stablecoin, is in a Colombian importer pays Asian suppliers in USDC: a case study. That article walks through a single order step by step; this catalog covers the other instruments that case does not compare.

Documentary collection and bank or demand guarantees

Documentary collection is an instrument in which the seller's bank sends the shipping documents to the buyer's bank with instructions to release them only once the buyer pays or accepts a bill of exchange. No bank guarantees payment: if the buyer refuses, the seller is left holding goods already shipped and no cash.

A bank or demand guarantee works differently: a guarantor bank commits to pay a set amount if the beneficiary claims the counterparty defaulted, without examining whether the default actually occurred. That is why it is called "on demand": the formal claim alone triggers payment.

What is the difference between a letter of credit and a bank or demand guarantee?

A letter of credit pays against the seller's performance, verified through compliant shipping documents. A demand guarantee pays against either party's default, without the guarantor bank judging the merits of the claim. That is why a demand guarantee can back either a buyer or a seller, while a letter of credit almost always protects the seller against the risk of not getting paid.

The ICC Uniform Rules for Demand Guarantees (URDG 758) have governed this instrument since July 1, 2010, and were endorsed by the United Nations Commission on International Trade Law (UNCITRAL) in 2011. Its 35 articles regulate how a claim is presented, expiry conditions, and guarantee transfers.

Standby letter of credit: the guarantee that backs a default, not a shipment

A standby letter of credit is a payment guarantee the issuing bank only honors if the applicant defaults on an agreed obligation, unlike a commercial letter of credit, which pays precisely because the seller performed the shipment. In practice it works more like a bank guarantee than a traditional letter of credit, even though it keeps the letter-of-credit name.

The International Standby Practices (ISP98), developed by the Institute of International Banking Law & Practice and recognized by the ICC as its Publication No. 590, have governed this instrument since January 1, 1999. A Latin American company bidding on an international tender or signing an overseas commercial lease commonly runs into a standby letter of credit requirement as a performance backstop, not as payment for goods.

This instrument shows up mainly in three scenarios: backing performance under a construction or supply contract, supporting a public or private tender, and replacing a security deposit under an international commercial lease. None of the three depends on goods in transit or a shipping document.

Advance payment, open account, and escrow: when no bank sits in the middle

Advance payment, open account, and escrow share one trait: none of them depends on a bank guaranteeing the counterparty's performance. Advance payment shifts the risk to the buyer, who pays before the supplier ships. Open account shifts it to the seller, who ships and invoices before getting paid, typically on 30, 60, or 90 days. Escrow splits the risk between both, because a neutral third party holds the funds until a condition both sides agreed to upfront is met.

An exporter accepting open account terms with a new buyer can mitigate default risk with trade credit insurance or, once the invoice is issued, by advancing the collection through export invoice factoring, explained in export invoice factoring: when it pays off. Neither option replaces the issuing bank behind a letter of credit: they shift the risk to an insurer or to a buyer of the receivable, not to a bank guarantor.

What is escrow, and why doesn't a bank always get involved?

Escrow is a deposit a neutral agent, which can be a bank, a law firm, or a specialized platform, holds until a verifiable condition both parties agreed on is met. Unlike a letter of credit, which always involves an issuing bank bound by international rules such as UCP 600, escrow depends on the specific contract the parties draft, with no single global standard behind it.

What Soulbit actually offers today in advance payment and open account

Soulbit does not issue letters of credit, demand guarantees, bank guarantees, standby letters of credit, or escrow services, and it is not a bank or an insurer. Any SMB that needs one of those four instruments still has to arrange it with its bank or a trade credit insurer, exactly as it does today.

In advance payment and open account, Soulbit V1 does show up, but strictly as a payment or collection rail. A buyer paying in advance can send the amount through quote-based OTC conversion or directly in stablecoin; a seller operating on open account terms can collect from its client through a payment link or a collection QR code, with the resulting balance held in institutional custody for as long as needed. None of this replaces the letter of credit or guarantee a supplier requires as a condition of the order.

Instrument	Does Soulbit offer it?	What Soulbit does in this mode
Documentary letter of credit	No	None: the company arranges it with its bank
Documentary collection	No	None: the company arranges it with its bank
Bank or demand guarantee	No	None: Soulbit is not a bank or an insurer
Standby letter of credit	No	None: Soulbit does not issue performance guarantees
Advance payment	Yes, as a payment rail	Payment link or quote-based OTC conversion to send the amount
Open account	Yes, as a collection rail	Collection QR code or payment link for the buyer to pay, with institutional custody of the balance
Escrow	No	None: it does not hold funds conditioned on a third party

Can Soulbit replace the letter of credit or guarantee my bank issues?

No. An SMB that needs a letter of credit, a guarantee, or a standby bond because its supplier requires it still has to arrange those with its bank. Soulbit only participates in the advance payment or open account leg the company has already decided to use, with payment links, collection QR codes, and quote-based OTC conversion when the deal requires a currency conversion.

How to choose an instrument based on the buyer's and supplier's profile

Choosing an instrument depends on three variables: how well the buyer and seller already know each other, how much risk each side is willing to carry, and what the other side of the deal requires. No instrument is universally superior; each one resolves a different risk split.

Against a new supplier, or one from a country with a limited trade record, a documentary letter of credit or a demand guarantee lowers risk because a bank mediates the deal and checks compliance before paying. Against a supplier or buyer with a proven relationship, advance payment or open account avoids the cost and lead time of opening a bank instrument. A standby letter of credit does not compete with the others: it answers to service contracts, tenders, or leases, not to the trade of goods.

The obligation to report the transaction under each country's foreign exchange regime does not change based on the instrument chosen. In Colombia, for example, every import or export of goods is subject to mandatory currency channeling regardless of whether payment moved by letter of credit, wire transfer, or stablecoin, as explained in Colombia's foreign exchange regime for companies.