Letter of Credit Definition

A letter of credit is a document issued by a bank or other financial institution that provides proof of available credit to the legal bearer. Letters of credit are used in some types of business exchanges where the seller and the buyer require guarantees beyond simply exchanging goods for cash-the letter of credit is exchanged prior to the goods being delivered; the goods are delivered and inspected; and the letter of credit is executed by drawing the funds specified. A letter of credit typically involves a very large sum and is often used in international transactions. Individuals are unlikely to encounter a letter of credit in normal personal finance operations.