What to Do If You Are a Letter of Credit Beneficiary

What to Do If You Are a Letter of Credit Beneficiary

First, check all agreements between you and the Account Party to identify the requirements that the standby letter of credit and the Issuer must satisfy.

Second, frequently check all standby letters of credit you may be holding to confirm maturity dates, conditions for draws and, most importantly, the identity of the Issuer. To determine whether the Issuer meets the standards appearing in your agreements with the Account Party, you can easily check the ratings on the rating agencies’ websites, as applicable – www.standardandandpoors.com; www.moodys.com, and www.fitchratings.com. If it appears that the Issuer’s rating has fallen below the specified standard, consider advising the party who is required to maintain the letter of credit of such failure in light of its contractual duties. Be sure to follow the document’s notice requirements, and check the default provisions to determine whether the party is entitled to notice and a right to cure. FDIC does not publish its FDIC Watchlist; if you have concerns about any particular institution, please note it is unlikely the FDIC will either confirm or deny that institution’s status.

A notice to a tenant might provide as follows:

Dear Tenant:

In accordance with the requirements of Section __ of the Lease dated ____, by and between ABC, LLC (“Landlord”) and XYZ, Inc. (“Tenant”), ________ Bank, the issuer of the letter of credit required under your Lease, no longer meets the LC Issuer Requirements specified therein. Accordingly, pursuant to the requirements of the Lease, Tenant has [five (5)] days from the date of this letter to deliver a replacement letter of credit from a bank that meets such requirements, failing which, Landlord has the right to present the existing letter of credit for payment and to hold the proceeds pursuant to your Lease.

Very truly yours,

[Landlord]

Third, as noted above, many standby letters of credit permit a drawing in full in the event that the Issuer fails to meet the requirements of the underlying contract and no replacement letter of credit has been delivered within a specified time period. When a Beneficiary holds a standby letter of credit with such language, the beneficiary should consider presenting a draw before the Issuer is placed under receivership or conservatorship. Look carefully at notice and cure provisions in the underlying document (such as the lease), and the letter of credit itself, to ensure that no liability will arise from such an action. Under applicable law, the Issuer may have as long as five business days to honor a draft for payment, so quick and decisive action will be imperative.

Fourth, in some instances, letters of credit are held in an escrow arrangement by a title company, bank or other entity. Because you should never assume that the escrow agent will be monitoring the Issuer’s financial condition (even if the escrow holder has agreed to do so), review the applicable terms and conditions to ensure that the appropriate protections are in place. Fifth, to the extent that you are involved in documenting a new transaction, review carefully how the letter of credit provisions in your documents work, and be mindful of the fact that bank ratings can change dramatically in the course of a day. In addition, from a drafting standpoint, counsel will want to ensure that the documents do not grant back-to-back notice and grace periods that could make decisive action impossible. A tenant may be unable, as a practical matter, to replace a repudiated letter of credit if the Issuer is subject to a receivership or conservatorship action and the FDIC does not transfer the Issuer’s obligations to a successor bank.

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