Letter of Indemnity

Are you wondering what a letter of indemnity is?

You are at the right place to get all your answers.

No one can deny the fact that many things can go wrong when goods are being transported from one place to another.

When there is some sort of damage to goods or a financial loss occurs during the transaction, who is to blame? The exporter, the importer, or the freight company?

To make sure everyone is on the same page, a contractual document is signed. This is a letter of indemnity (LOI).

It states that in case there is a financial loss or there is some damage to goods, certain provisions will be carried out by both parties.

The letter of indemnity is important to protect the parties involved in the shipping process of goods. Read on to know more about it!

Table of Content

Chapter 1: What is a Letter of Indemnity (LOI)?

Chapter 2: Who Signs and Drafts the Letter of Indemnity?

Chapter 3: What are the Three Types of Indemnity?

Chapter 4: Letter of Indemnity and Bill of Lading

Chapter 5: Bank Guarantee VS Letter of Indemnity

Chapter 6: When Should You Sign an Indemnification Clause in the Contract?

Chapter 7: FAQ’s About Letter of Indemnity

Chapter 1: What is a Letter of Indemnity (LOI)?

What is a Letter of Indemnity (LOI)

When you carry out import/export, you don’t know who and what you are dealing with. There are many things that you can do wrong.

To ensure that trade is made smooth and reliable, the importer and exporter are required to provide several documents. One such document is known as the Letter of Indemnity.

1. How do you define a Letter of Indemnity?

The Letter of Indemnity is a legal contract that both parties sign before they carry out a business transaction. In this case, before they make an import/export.

It assures one party that no financial loss will be incurred if the other party does not fulfill their agreement.

Even if a financial loss occurs, the party will not have to bear it!

How do you define a Letter of Indemnity

2. What is the purpose of a Letter of Indemnity?

When two people/parties agree to carry out business together, both have some obligations. Mostly, one party pays for the products/services of the other party.

There is a possibility of breach of contract. In case of a breach, there are two possibilities. Either the party does not receive the goods or the other party does not receive the payment.

To ensure this does not happen, you sign a letter of indemnity.

Another reason for signing a Letter of Indemnity is that both parties hold their end of the contract. All the requirements and repercussions are stated clearly in it.

The main objective of the letter is to make sure someone does not suffer any loss due to the mistake or negligence of someone else.

3. Why do you need a Letter of Indemnity in Shipping?

Why do you need a Letter of Indemnity in Shipping

When you are shipping goods from one place to another, the carrier issues a Letter of Indemnity to the shipper. This is done to ensure that if something happens to the goods, the carrier will not be held responsible for the mishap.

Some other reasons why a Letter of Indemnity is a good idea are as follows.

  • Your goods are insured and protected under the Letter on Indemnity

Let’s think of it like this; if you don’t have a letter of indemnity against your goods, what happens if there is any damage? What happens if the container flips and your goods are lost at sea? Whose fault is it?

The carrier, the shipper, the importer, or the exporter? In this case, it is not the fault of anyone. So, why should one person bear all the loss?

If you don’t have a letter of indemnity, disputes can occur as to who will be responsible for the lost/damaged goods? Who will bear the financial cost?

  • The client is protected in case of an uninsured risk

Accidents can happen anywhere and anytime. Even if you plan everything, there is so much that can go wrong. It is not possible to have insurance for everything. A letter of indemnity covers all those uninsured risks that any party can face.

  • The Letter of Indemnity can help save against different additional costs

There are so many costs which we don’t consider when making a deal. Costs like storage, demurrage, insurance, and other expenses are not always taken into consideration.

With a Letter of Indemnity, you can save yourself from all these added costs.

  • You don’t need to wait for the Bill of Lading

The bill of lading takes a couple of days to come. At times, it can take longer than that. The letter of indemnity allows the recipient to get access to the cargo immediately.

If you don’t have the letter of indemnity with you, your cargo will not be released without the bill of landing.

Chapter 2: Who Signs and Drafts the Letter of Indemnity?

Who Signs and Drafts the Letter of Indemnity

The letter of indemnity is signed by both parties. It can never happen that only one party signs the document. In this case, it will be null and void.

By signing, both parties agree to the terms and conditions written down in the letter of indemnity. There are not 2 but 3 parties while signing the document.

The first party is the buyer/seller. The second party is generally the carrier who agrees that if anything happens to the goods, the first party will not be responsible.

The third party involved in the bank or entity that is witness to the agreement. This is the entity that will pay in case there is any problem.

1. Who makes the Letter of Indemnity?

Mostly, the buyer or seller requests a letter of indemnity. It is signed by all the parties involved. But, a third-party drafts and prepares the document.

It can either be a bank or an insurance company. In case a party fails to meet the requirements of the contract, it is the insurance company or bank that will pay.

If the cargo involves general items which are not very pricey, you can simply sign the letter of indemnity and get on with your business.

If there are high-valued items involved, the best way is to go ahead and evaluate the worth of the items through an insurance company. This will make making the document easier.

2. What are the components of the Letter of Indemnity?

What are the components of the Letter of Indemnity

  • Date

The Letter of Indemnity has the date written on the top. Just like any other legal document, it is important to write the date so that it is clear when the document was signed.

  • Write the body of the letter

It is very important to get right to the point when writing the letter of indemnity. Legal documents should not be wordy. There is no need of writing unnecessary information. It is a one-page document and should not be made too lengthy.

  • Be Specific in your details

Add specific details in the letter of indemnity. We have already mentioned that it should not be wordy. But, don’t skip out any details. You need to be very specific in wording the letter of indemnity.

  • Use the appropriate language

Don’t make the letter very formal or casual. Specific language like “For valuable and good consideration…” should be used.

This makes the clauses very specific. It is clear through this language that one party is going to pay the other party in return for the agreement.

  • Clauses under which you might not be able to complete the contract

If you are the provider of goods and for some reason, the workers go on strike. You are not responsible for that, right? But, if you don’t provide the goods, under the letter of indemnity, you have to pay the penalty to the importer.

To save yourself from this, you should include all the clauses under which you might not be able to complete the contract.

Very lengthy details are not required. You can simply say I will not be held responsible if the workers go on strike. Or, if a natural disaster occurs or if the cargo overturns etc. Be sure to discuss these clauses with the other party to ensure you are on the same page.

Clauses under which you might not be able to complete the contract

  • State how you will ensure your buyer will not suffer

Clearly describe what you will be doing to ensure that the other party signing the letter of indemnity does not suffer losses. Don’t just give one option. The best way is to give many different alternatives.

  • Write your commitment down clearly

Be clear in whatever you do. Don’t leave any vague statements or ideas in the letter. It is a very important document and is legally binding. It can be used against you in a court of law.

3. What are the undertakings that are written in the Letter of Indemnity?

What are the undertakings that are written in the Letter of Indemnity

Depending on the two parties, the undertakings of the letter of indemnity can be different from contract to contract. Below are some of the agreements that are included in the letter of indemnity. These are as follows.

  1. Both the bank (third party) and the consignee back them to undertake to indemnify the shipper/carrier in case of any repercussion.
  2. In the absence of the bill of landing, if the carrier is faced with a claim for conversion of goods, the contract is nullified between the carrier and receiver.
  • The actual losses that the claimant claims can be higher than the value of the goods under consideration.
  1. Once all the indemnity is paid, it is terminated. The process is long and it can take many years for the indemnity to be paid off completely.
  2. Every indemnity has a lifespan. Usually, it is 6 years.

4. When do you require a Letter of Indemnity?

There are a few scenarios in which the letter of indemnity is required by law. The main circumstances under which it is important to have a letter on indemnity are as follows.

When do you require a Letter of Indemnity

  1. The bill of lading is not present. The carrier is still asked to go ahead and deliver the goods without the BOL (bill of landing). In this case, it is important to have the Letter on Indemnity with you.
  2. It is possible that the bill of lading does not reach the port and the cargo reached before that. If you have the letter of indemnity with you, you will be able to get your goods from the port.
  • To issue a clean bill of landing.
  1. In case you have lost the original bill of lading and want the goods to be released, you need the LOI.
  2. If there has been a change of plan and the cargo needs to be delivered somewhere else.
  3. Is needed when a postdated or antedated BOL has to be issued.

5. Example of a Letter of Indemnity

A letter of indemnity is not restricted to the shipment of cargo. It is used in any type of business transaction. An example can be the delivery services or moving companies.

Another example is the import and export of items. If export/import is the case, a letter of indemnity shows that the goods are secured.

If any theft, damage or loss of goods occurs, the owner of the cargo will be compensated. This compensation is paid by a third party who has taken an undertaking for paying it.

Chapter 3: What are the Three Types of Indemnity?

What are the Three Types of Indemnity

A letter of indemnity can be divided into three types. These are different from each other in the types of clauses they hold.

1. Limited Form Indemnity

This type of indemnity is comparative. Each party pays for their negligence. For instance, if the contractor is 70% at fault, he/she will pay for 70% of the compensation. If the owner is 30% negligent, he/she will pay for that 30% only.

There are many issues with this type of clause. First of all, the ratio of negligence is not possible to calculate.

You can never be sure how much percent fault a person is at. If I say I will pay for my own and you pay for your own, who is there to decide how much fault one is at?

2. Broad Form Indemnity

As we already know there are two parties to the Letter of Indemnity. One is the indemnitee (mostly the buyer/importer) and the other is the Indemnitor (seller/carrier).

In this clause, the Indemnitor always pays 100% regardless of whose fault it is. The phrase which is used in this type of indemnity is “in part or whole.”

This means that the indemnitee can be 100%, 80%, 50% or 1% at fault and still he/she has to pay the entire amount. This is the most common form of indemnity.

3. Intermediate Form Indemnity

The intermediate form indemnity is more or less the same as the broad form of indemnity. The only difference is that the Indemnitor pays for all the negligence of the indemnitee. The only catch is that the indemnitee is not 100% at fault.

Chapter 4: Letter of Indemnity and Bill of Lading

Letter of Indemnity and Bill of Lading

Some people confused the Bill of Lading and the Letter of Indemnity. Both are not the same at all. The letter of indemnity is a legal document that saves the shipper against legal consequences that can arise because of a clean Bill of Landing.

The concerned party can raise a claim when the goods are not loaded according to clauses in the agreement.

A Bill of Lading is a document that acts as a type of receipt of the freight services. It is a contract that is agreed upon between the shipper and the freight carrier.

It contains all the details that are required to process a shipment. The information on the letter of indemnity should be the same as the information provided on the bill of lading.

Chapter 5: Bank Guarantee VS Letter of Indemnity

Bank Guarantee VS Letter of Indemnity

Even though it seems the same, a bank guarantee is not the same as the Letter of Indemnity. A Letter of Indemnity is a promise that a shipper makes to the other party.

It is a promise that the shipper will compensate for any loss that occurs because of anything. It can be the fault of the promisor or any other reason described in the LOI.

On the other hand, a bank guarantee is a legally binding document. In this, the person who is issuing the guarantee (in this case a bank) makes a promise to a party.

This promise states that all the obligations of the third party will be compensated by them if there is any sort of default in payment.

Chapter 6: When Should You Sign an Indemnification Clause in the Contract?

When Should You Sign an Indemnification Clause in the Contract

Not all transactions require you to sign a letter of indemnity or an indemnification clause. You should sign an indemnification clause only when you are 100% sure about what is written and agree with it.

If you don’t agree with anything about it, be sure to ask. If you are the buyer, you should be more vigilant in reading the contract.

1. What to Look out for in an Indemnification Clause?

No one likes reading long contracts. Most people just skim through what is written and look at the numbers. If the numbers make sense, they go ahead and sign the document.

This is the biggest mistake you can make. Reading and understanding the LOI is imperative. There are some words you need to be cautious about.

Words like no matter what, every, any, all, regardless of seem harmless but ruin your indemnity.

If you end up signing an agreement that includes tricky words like this and is vague, no one can save you.

Even well-reputed insurance policies will be unable to protect you against indemnity fraud if you have signed an LOI which is not clear. Therefore, it is important to read all contracts very carefully.

2. What are the risks associated with accepting a Letter of Indemnity?

Even though the LOI is a legally binding document, there are still some risks that are associated with it. Following is a list of risks that you might end up encountering if you accept a Letter of Indemnity.

What are the risks associated with accepting a Letter of Indemnity

  1. The Letter of Indemnity is only as valuable as the entity that is granting it. Check the authenticity and reliability of the bank/insurer that is offering it. Be sure to check the financial standing of the institute.
  2. If you are signing an LOI with long-term clauses, you need to be sure the grantor will be in business. Mostly, indemnity is paid over many years. What if the creditor goes bankrupt or leaves their business? Who is going to pay you?
  • Check the reputation of the entities which are acting as a third party in the LOI.
  1. Make sure that the LOI is worded properly and there is no vagueness in the terms and conditions.

3. How can you mitigate the risks associated with accepting a Letter of Indemnity?

Now that we have identified the risks that are associated with accepting a Letter on Indemnity, we can manage and mitigate those risks. There are many risks involved in doing business.

The trick is to identify them, manage them and then mitigate them. Similarly, while accepting an LOI, consider these risk management tips.

  1. Check that the right party is being addressed in the LOI.
  2. Even if you are satisfied with the bank/insurance company that has provided indemnity, get it counter-secured by another bank. Choose a bank that you find reliable.
  • Conduct due diligence on the third party that is granting the indemnity.
  1. Be thorough in checking the letter of indemnity. The LOI should be broad enough that it covers all the costs, liabilities and losses that might occur.
  2. Keep all the evidence of the identity of the recipient. This is your legal right. You can confirm the identity and also keep copies for proof.
  3. Check all the signs.
  • Don’t add a time limit on the LOI. If you have to set a time limit, set a date that you are sure would have covered all the provisions by then.

4. Does an indemnity holder have any rights?

Yes. The holder of the indemnity is allowed to reclaim all the damages from the agreement. He/she can recover the entire sum that has been from the indemnified. This is only possible in case there has been a compromise of any suit.

Chapter 7: FAQ’s About Letter of Indemnity

faqs about What is a Letter of Indemnity (LOIfaqs )

1. Is a Letter of Indemnity a Legal Document?

Yes. A letter of indemnity is a legal document. If something happens, the party who has promised indemnity is legally obliged to pay.

2. Can an indemnity in a Letter of Indemnity be limited?

Yes. The limit of the indemnification provision can be limited.

3. Can you ship with a Letter of Indemnity if you don’t have the bill of Lading?

Yes. Under certain terms and conditions, it is possible to ship goods without the Bill of Lading. This can only be done if you have the Letter of Indemnity with you.

But, it has to be stated on the LOI that the bill of landing is not present and shipment is being done without it.

4. Should we use a template to write the letter of indemnity?

No. We do not advise using a template to write the letter of indemnity. These free templates are general outlines and the wordings are not specific. So, you should refrain from using a template.

 Conclusion

At Ejet Sourcing, we aim to make business easy for you. Our detailed guide on what a Letter of Indemnity is will help you understand the definition, working and requirements of the LOI.

If you want us to help you with your sourcing needs, we are happy to help.

So, what are you waiting for? Contact us today and discuss your requirements.