Compliance is a Shared Responsibility: No Conflict with the Independence of Letters of Credit
Introduction
In the global trade finance landscape, compliance has become an increasingly critical and regulated function. Continuous Customer Due Diligence (CDD), Know Your Customer (KYC), Anti-Money Laundering (AML), Countering the Financing of Terrorism (CFT), and sanctions screening form an integral part of any cross-border transaction today.
Often, there is a misconception that these compliance requirements are exclusively the responsibility of banks. In reality, compliance is a shared responsibility that extends across all participants in the trade chain — including exporters, importers, carriers, freight forwarders, insurers, and surveyors — alongside financial institutions.
Another common misunderstanding suggests that such compliance obligations may somehow interfere with or undermine the independence principle of Letters of Credit (LCs), as defined in UCP 600. This article demonstrates that compliance obligations, while legally binding, do not contradict or diminish the independence principle. Instead, they operate in parallel, serving to uphold the integrity and legality of international trade transactions.
The Expanding Scope and Shared Responsibility of Compliance in Trade Finance
Compliance frameworks exist primarily to protect the global financial system from misuse for illicit activities such as money laundering, terrorist financing, sanctions violations, fraud, and export control breaches. Every participant in a trade transaction must ensure that the transaction not only fulfils contractual obligations but also adheres to applicable legal and regulatory standards.
Banks, as financial intermediaries, are required to carry out:
- Know Your Customer (KYC) and Continuous Customer Due Diligence (CDD): Verifying the identity, ownership structure, and business activities of all parties involved.
- Sanctions Screening: Ensuring that no involved party is subject to national or international sanctions.
- Ongoing Transaction Monitoring: Identifying and investigating suspicious transactions or patterns.
While banks often serve as the first line of regulatory compliance, these obligations extend far beyond financial institutions. Exporters, importers, freight operators, carriers, surveyors, and insurers must likewise:
- Verify their counter-parties’ legitimacy.
- Confirm that the goods do not violate export control laws.
- Ensure they are not dealing with sanctioned parties or jurisdictions.
- Adhere to national and international compliance obligations applicable to their industries.
Leading regulatory bodies and industry standards reinforce this shared responsibility:
- Wolfsberg Group’s Trade Finance Principles (2023 Update): Advocates shared compliance responsibility across financial institutions and corporates.
- Financial Action Task Force (FATF): Encourages all private sector actors to actively prevent misuse of trade for illicit purposes.
- Basel Committee and national regulators (e.g., OFAC, EU, UN, DGFT in India): Impose direct obligations on both financial and non-financial participants in trade.
The Legal Distinction: UCP 600 vs. Regulatory Compliance
UCP 600 establishes two foundational principles governing Letters of Credit.
Article 4 (Credits v. Contracts) confirms that a credit is independent from the underlying contract of sale or service between the applicant and beneficiary.
Article 5 (Documents v. Goods, Services, or Performance) specifies that banks deal with documents alone, and not with the goods, services, or performance to which those documents may relate.
Accordingly, an issuing bank’s obligation to honour payment arises strictly from a compliant presentation of documents under the LC terms, regardless of the underlying commercial transaction.
However, regulatory compliance obligations are derived from national laws, sanctions regimes, anti-money laundering statutes, and export control regulations. These are matters of public law, not contractual rules. Therefore, even if documents fully comply with the LC, a bank may still be legally prohibited from executing payment if the transaction violates applicable sanctions or other legal requirements.
The International Chamber of Commerce (ICC) Banking Commission Opinions reinforce this principle:
- ICC Opinion TA.652 / R470 (2006):
“Sanctions compliance lies outside the scope of UCP 600; banks must observe applicable laws even if documentary compliance exists.”
- ICC Opinion R859 (2013):
“Compliance with applicable sanctions and laws is not a matter covered by UCP 600, but by applicable law.”
These authoritative opinions make clear that compliance obligations and UCP 600 operate as parallel, independent frameworks.
Compliance and the Independence Principle: No Conflict
The independence principle, central to UCP 600, remains unaffected by compliance obligations. The issuing bank’s undertaking to pay under the LC arises when a complying presentation is made. Compliance reviews do not require the bank to assess the underlying contract, goods, or services — they simply ensure that legal prohibitions are not violated.
In practice:
- If documents comply with the LC and no regulatory violations exist, the bank must honour payment.
- If documents comply, but payment would violate sanctions or legal prohibitions, payment may lawfully be blocked.
- If documents do not comply, payment is rightfully refused under UCP 600 alone.
Thus, compliance obligations serve to uphold legal integrity, not to interfere with documentary obligations under UCP 600.
Conclusion
In modern international trade finance, compliance is unequivocally a shared responsibility. Banks, while bearing substantial obligations to perform KYC, AML, CDD, and sanctions screening, are not the sole custodians of compliance. Exporters, importers, carriers, insurers, surveyors, and service providers equally share the duty to ensure transactions are legal, transparent, and fully compliant with applicable laws.
Critically, compliance obligations do not conflict with the independence principle under UCP 600. Rather, they operate as a parallel legal framework that complements and strengthens the integrity of the global trade finance system.
By recognising compliance as a shared responsibility — rather than a constraint — all parties in the trade chain contribute to securing lawful, transparent, and resilient trade transactions, while fully preserving the sanctity of the LC’s independence principle.