I know you’re are probably wondering what a bill of exchange is.
Or, you just want to know what it entails and its importance when importing from China.
Well, today’s guide answers it all.
- What is a Bill of Exchange Document?
- What is the Purpose of a Bill of Exchange?
- Who are the Parties involved in Bills of Exchange?
- What are the Features of a Bill of Exchange in Import/Export?
- What are the Benefits of Paying by Bill of Exchange in International Trade?
- How many Types of Bill of Exchange are there?
- Who is the Drawer in Bills of Exchange?
- Is Cheque a Form of a Bill of Exchange?
- What is the Difference Between a demand Draft and a Bill of Exchange?
- What’s the Difference Between a Promissory Note and a Bill of Exchange?
- What is the Importance of a Promissory Note in Bill of Exchange?
- Who can issue Bills of Exchange?
- What is Acceptance of Bills of Exchange in Import/Export Business?
- How does a Bill of Exchange compare to a Letter of Credit?
- What does “Discounting of a Bill of Exchange” mean?
- How do you Calculate Discount on a Bill of Exchange?
- Can you Exchange a Bill of Exchange at the Bank?
- Why is a Bill of Exchange often Unconditional?
- What Happens when you’re unable to Pay the Amount of Bill on a Bill of Exchange upon Maturity?
- What is the Process of Bill of Exchange Renewal?
- Is a Bill of Exchange Transferrable?
- What does “Bill of Exchange after Sight” mean?
- How are due Dates/Maturity Dates given in a Bill of Exchange?
- What does it mean when Maturity Date is Bill after Sight?
- What are the Usage Options available to the Holder of a Bill of Exchange?
- What is the Concept of an Accommodation Bill of Exchange?
- When is a Bill of Exchange said to be Dishonored?
What is a Bill of Exchange Document?
It refers to an instrument in a written form containing unconditional order by one party to another to pay a certain amount of money for received goods or services.
The payment can be immediately or on a fixed date.
In simple words, it means a bill, which drawn by an individual who instructs another person to pay a certain amount of money to another person.
The drawee must sign the bill as an indication of acceptance the converts it to a post-dated cheque and legally binding contract.
In some cases, it is also known as a trade draft. Even so, the selection is negotiable instruments.
Sample bill of exchange
What is the Purpose of a Bill of Exchange?
The purpose of this instrument is to bind one party to pay another party a particular amount of money at a predetermined date.
It enhances efficiency when it comes to facilitating payment in international trade.
Who are the Parties involved in Bills of Exchange?
Bills of exchange has five major players with different roles, and they include the following;
Drawer – This is the party, which creates the bill of exchange. He is responsible for making and signing the instrument thus at times referred to as the maker.
In an export transaction, it is the seller who draws the bill as money owned to him.
Also, a creditor entitled to receive money from a debtor can as well draw this instrument.
Drawee – This refers to the individual upon whom the bill of exchange is drawn. It is the debtor who must pay the money to the drawer.
In export business, it is the seller who draws the bill on the buyer, who is the drawee.
Payee – This is the person to whom payment has to be made. It can be a third party or better still the drawer himself.
Endorser – This is the person who has appended his signature on the back of the bill of exchange. The essence is to signify he has obtained title for bill on his/her account of the original payee.
Endorsee – It refers to the individual whom the bill is endorsed. The endorsee can receive the money from the drawer.
What are the Features of a Bill of Exchange in Import/Export?
When handling a bill of exchange in the import/export business, you must comprehend its essential features.
Some of its key features to look into in this instrument include the following;
- It must be unconditional
- It contains a confirm order to make a payment and not merely a request.
- It contains a predetermined date, which the money should be paid to the creditor
- It contains an absolute order to pay a particular amount
- The amount should be paid on-demand or upon expiry of a fixed time.
- The money is paid to particular beneficiary of the bill, specific individual or against a definite order.
- The maker must duly sign and stamp it, and the drawee must accept it.
- It must contain a revenue stamp
What are the Benefits of Paying by Bill of Exchange in International Trade?
It is a legally binding document.
Thus it becomes easier for the drawer to recover the amount legally in case drawee fails to make the payment.
It is possible to exchange it from one party to another for adjustment of the debt.
The bill bearer must wait for the due date of the bill to receive payment. It thus comes out as a discounting facility.
It provides a fixed date on which the amount is to be paid.
It, therefore, makes it easy for the person collecting it to know precisely when to expect the money.
The borrower also knows when he’s to make the payment.
It is quite flexible and allows the importer to purchase commodities on credit and make payment of predetermined date.
It has a wider acceptance, particularly where a foreign bill is concerned.
It allows both parties to make and receive the payment.
How many Types of Bill of Exchange are there?
They are quite several, and in most cases, the particular type depends on its purpose of objective.
Some of the common types include the following;
Types of bill of exchange
Clean bill – It does not have proof of paperwork or document.
The relative documents, in this case, are sent directly to the importer to facilitate delivery of the shipment.
Interest, in this case, is comparatively higher than other bills.
Documentary bill – It is the type, which is supported by the relevant paperwork confirming the genuinity of a transaction that took place between seller and buyer.
Usance bill – It refers to the type, which is time-specific hence the payment must be made within a specific period.
Accommodation bill – It is the type in which the bill is drawn and accepted on the basis of mutual assistance.
Also, it is designed for mutual benefit without necessarily a trade function.
It hardly involves sale or purchase of any commodities or services.
Sight bill – It is the type, which compels the drawee to make payment upon presentation.
It does not have a fixed date of payment; hence must be cleared when presented.
It is also known as demand bill of exchange.
Foreign bill – It refers to the type, which can be paid outside the country.
Export and import bills of exchange are examples of a foreign bill.
Who is the Drawer in Bills of Exchange?
It is the individual responsible for writing and signing the bill of exchange.
The drawer and the payee are same entities unless in circumstances where the drawer transfers the bill to the third party.
Is Cheque a Form of a Bill of Exchange?
Section six of Negotiable Instrument Act stipulates that a cheque is a bill of exchange, which is drawn on a particular banker.
It further states a cheque is payable on demand and incorporates an electronic image of shortened cheque and a cheque in electronic form.
A cheque and bill of exchange have quite a number of differences.
However, a cheque resembles and contains several features of a bill of exchange.
Therefore, it is considered a form of a bill of exchange.
What is the Difference Between a demand Draft and a Bill of Exchange?
A demand draft refers to a special bill of exchange drawn by a particular branch on another branch who is a drawee.
In this case, the payee is the beneficiary of a demand draft.
Demand draft just like bill of exchange is negotiable but relatively difficult to revoke.
A bill of exchange, on the other hand, involves three major parties, including the drawer, drawee and payee.
What’s the Difference Between a Promissory Note and a Bill of Exchange?
There is a thin line between promissory note and bill of exchange.
Ideally the former is primarily a promise to pay written documents containing a maker and the lender.
Bill of exchange is a written order with non-interest bearing used in international business.
It binds one party to pay another party a certain amount of money within a specific future date.
The parties involved in promissory note are two; the payer and the payee.
In bill of exchange, the parties involved are three; the drawer, drawee and payee.
A promissory note is unconditional whereas, a bill of exchange provides room for negotiation hence accepted conditionally.
The maker cannot self-pay in a promissory note.
On the other hand, the drawer and payee in bill of exchange may be one entity or person.
A drawee must accept the bill of exchange before it’s presented for payment.
A promissory note hardly requires any acceptance given it is signed persons liable to pay.
Promissory note presents unconditional promise to pay, whereas the bill of exchange provides for unconditional order to order to pay.
In a promissory note, the maker’s liability primary and absolute.
Contrary, in bill of exchange, the drawer’s liability is secondary and conditional.
What is the Importance of a Promissory Note in Bill of Exchange?
It provides legal proof – the importance here is that it binds the involved parties thus helpful should you wind up in court due to non-payment.
It determines a payment schedule – The process of creating this document compels the payer to come up with predetermined terms. It thus enables the payee to work with a fixed payment schedule for convenience.
Resolves issues surrounding tax – In some instances, there could be tax implications you need to consider depending on the amount. This note thus helps to demonstrate the money was loaned and not necessarily a gift.
It makes it less personal – The legal terms and conditions on promissory note reduces or eliminates possible future disagreements. It makes it clear the debtor must repay the amount of money accordingly.
Who can issue Bills of Exchange?
It is issued by the creditor, who in turn instructs the debtor to pay a specific amount of money within a certain period.
What is Acceptance of Bills of Exchange in Import/Export Business?
It refers to the procedure involving acceptance of exporter’s bill of exchange by the drawee.
The drawee usually confirms his acceptance by ensuring he signs under the word accepted on the face of the bill.
Simply put, it is a guarantee of payment, which the drawee extends towards the order of the drawer.
It is essential since, without it, the drawee has no legal obligation to make a payment on any bill addressed to him.
How does a Bill of Exchange compare to a Letter of Credit?
Bill of exchange can be a written export document with unconditional terms of payment from the payer to the payee within a specific period.
It involves the drawer, the drawee and the payee.
The payee is guaranteed to have a specific amount of money within the stipulated fixed date in a bill of exchange.
Letter of credit is an instrument issued to the seller by the buyer’s bank guaranteeing payment upon meeting the stipulated demands.
The parties to the letter of credit include the buyer, seller, and banker (third party).
How letter of credit works
Both bill of exchange and letter of credit offer flexible terms.
It means the involved parties can negotiate and agree on feasible terms before committing to the same.
A drawee has to accept the bill of exchange before the payment is effected.
In letter of credit, the commodities must be dispatched before the buyer’s bank can release money to the seller’s account.
What does “Discounting of a Bill of Exchange” mean?
It refers to the process of converting the bill of exchange into cash before its actual maturity date.
It usually happens when the receiver needs the money urgently before the specific date of maturity.
Bills of exchange typically have a fixed maturity date.
However, if you want to get cash before the actual maturity date, you can choose to cash the bill and get the money.
In the end, the creditor receives comparatively less cash than the face value of the bill of exchange, thus the discount.
The discount is the difference you get between the maturity value and the actual amount you receive.
How do you Calculate Discount on a Bill of Exchange?
The rates for a discount on a bill of exchange varies depending on different prevailing circumstances, especially variance in periods.
Also, the bank charges the discounting rates from drawer at a specific rate.
The bank deposits the net amount of and charges a certain amount as the discount.
Discount = Actual amount of bill – Net amount of bill (Based on period)
Can you Exchange a Bill of Exchange at the Bank?
You can exchange this instrument at a commercial bank.
All you need is to ensure the payee’s bank advises the payer’s bank on terms surrounding the bill of exchange.
When importing from China, you need to understand whether or not the specific bank you are transacting on accepts exchange of this instrument.
You also need to know the rates for varied transactions surrounding exchange and use of this instrument.
Why is a Bill of Exchange often Unconditional?
It involves negotiation amongst the involved parties to enhance practicality of this instrument as a mode of payment.
The parties agree on feasible terms and conditions then set a predetermined date for effecting the payment to the payee.
It is this flexibility, which also makes it an unconditional financial instrument for payment even when you’re importing from China.
You can also transfer the bill of exchange as many times as possible until its maturity.
What Happens when you’re unable to Pay the Amount of Bill on a Bill of Exchange upon Maturity?
There is a provision, which allows you as the maker to cancel the old bill and draw a new bill of exchange.
The process of canceling and drawing a new bill of exchange is known as Renewal of Bill.
However, the drawee will pay applicable interest to the acceptor often paid in cash or can be transferred and added to the new amount of new bill.
What is the Process of Bill of Exchange Renewal?
Once the new bill of exchange is issued, it implies all both parties involved are affected.
Therefore, entry of renewal is effected on the books of both the drawer and acceptor.
In case the drawer discounts or dishonors the similar bill entries are made as for dishonor.
Subsequently, second entry for interest is effected.
It is either payable in cash or by cheque.
Then the third entry is in regards to renewal of the bill.
Renewal of bill of exchange is often effected on three grounds;
- Renewal due to failure to pay the bill upon maturity
- Renewal in case of partial payment
- Renewal in case of dishonoring the bill
Is a Bill of Exchange Transferrable?
It is transferrable such that the drawee may find himself paying a different participant than it initially accepted to pay.
As a payee, you can transfer the bill to another party by ratifying the back of the document.
In this case, the risk is should the entity accept the bill of exchange, and the drawee fails to pay.
What does “Bill of Exchange after Sight” mean?
It merely implies the days of for honoring the bill of exchange shall be considered from the date the drawee accepts it.
So basically, the period, in this case, starts from the date after acceptance by the drawee.
How are due Dates/Maturity Dates given in a Bill of Exchange?
They are given based on the prevailing situation as follows;
Months – It is calculated depending on the number of months in a calendar year.
It entirely ignores the days in the month, but three days of the grace period are added.
Days – It is calculated in days, including the day of payment but excluding the day of transaction. A three-day grace period is also added.
National holiday – When maturity date falls on a national holiday, the actual maturity date of the bill becomes the preceding business day.
Emergency holiday – Should the due date be declared an emergency holiday, the actual maturity/due date becomes the first day from maturity date.
Bill of exchange sample
What does it mean when Maturity Date is Bill after Sight?
It means the period commences from the date of accepting the bill.
Even so, the bill after sight is payable at a predetermined period after sight.
Also, there is a three-day grace period allowed on this kind of bill.
What are the Usage Options available to the Holder of a Bill of Exchange?
The bill of exchange holder can use it in any of the following available options;
- It can be endorsed or negotiated in favor or creditor
- The bank can discount it
- It can be retained until the maturity date
- It can be forwarded to the bank for collection
What is the Concept of an Accommodation Bill of Exchange?
It arises whenever a bill of exchange is drawn and accepted for the sake of mutual help.
The drawee accepts the accommodation bill of exchange as a way of accommodating the drawer.
In this case, the drawee becomes the accommodating party, whereas the drawer becomes the accommodation party.
The entries for accounting for accommodation bills are designed the same way as other bills.
When is a Bill of Exchange said to be Dishonored?
It happens when the drawee forfeits payment on the date of maturity.
In most instances, the bill gets dishonored when the drawee has insufficient funds to pay.
It also becomes dishonored when the drawee becomes insolvent.
Such a situation culminates to restoration of the acceptor’s liability.
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