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  • QA 179
    Question:
    On what grounds, if any, may a buyer withhold payment? *
    Background:
    On what grounds, if any, may a buyer withhold payment? And, on what grounds, if at all, could a shipment of green coffee be rejected on arrival? What would happen to such a shipment and what redress would a shipper have?
    Asked by:
    Financial institution - Switzerland
    Answer:

    Most of the international trade in green coffee takes place under standard contracts that disallow the unreasonable withholding of payment.

    The ECF (European Coffee Federation) and the GCA (Green Coffee Association of New York) range of contracts deal with the trade of green coffee to Europe and North America respectively. These two areas alone accounted for some 80% of world import consumption in the 2005/06 Coffee Year (1 October - 30 September). The same contracts are also used for trade to other destinations, for example in Asia, and set the standard.

    In most transactions an agreed set of shipping documents represents the goods: after all it is physically impossible to simultaneously exchange both goods and payment.

    Buyers are obliged therefore to make payment when the agreed documents, documents that are in conformity with the terms of the contract, are presented. If the sellers could not rely on this then the international trade in coffee would become impossible! **

    Generally speaking buyers can only lawfully withhold payment under very specific circumstances:

    • The documents must enable the goods to be imported into the country of destination. If they do not then the documents are not valid and no payment can be made.
    • The bill of lading must provide clear and obvious title to the goods.  Usually, bills of lading are made out to a named consignee. When a consignment passes through multiple hands (which is not unusual) then the bill of lading must be endorsed by one party to another. This 'endorsement chain' must be unbroken - if it is broken (one party has not signed for example) then the bill of lading does not provide the required title and no payment can be made.
    • The documents must be 'clean' - a bill of lading may not state that the goods were damaged at the time of loading. If it does then it is not 'clean' and  buyers are entitled to withhold payment if they so choose.

    To note here that simple clerical errors in documents, like spelling mistakes for example, do not entitle buyers to withhold payment. Also, a missing document (or documents) may be substituted by a formal guarantee provided this does not prevent importation into the country of destination. In practice most documentary problems are amicably resolved but only if both parties so wish…

    Of course individual commercial contracts may contain variations agreed to by buyer and seller. For example, a buyer may stipulate that the documents must include a certificate or declaration, issued by a specific organization or body, without which payment will not be made.  It is important to examine such conditions because what happens if subsequent to shipment it is found that such a document is in fact unobtainable?

    If a buyer withholds payment without due cause, the seller's first course of action is to declare a dispute and take the matter to arbitration. Both ECF and GCA contracts expressly exclude recourse to the law for the settlement of disputes, stating instead that this shall be resolved through arbitration. This is partly to prevent consignments being held up endlessly because of lengthy (and costly…) court proceedings, but also because the trade in coffee is complex. Dispute resolution requires insight and expertise not easily found outside the coffee trade itself. Failure to comply with an arbitration award must however be dealt with through recourse to the courts at the place where a defaulting party may be domiciled. To note that in most jurisdictions the courts will only examine the merits of the arbitration process and not the case itself.

    In the end of course none of the foregoing prevents someone from withholding payment and there have been rare occasions when payment has been withheld for no valid reason. For example when the market has dropped sharply and a shipment is showing a substantial loss. Where such mistrust exists the only solution for the seller is to insist on a letter of credit to be opened, ahead of shipment. Or, not to trade with the party concerned.

    NB: Contracts are discussed fully in Chapter Four of the Guide - Arbitration is covered in Chapter Seven. See also Chapter Ten for issues relating to Credit and Risk.

    *  This question covers two issues: withholding payment, and rejection of goods. The payment issue is dealt with in this Q&A - for the rejection issue please see Q&A 180.

    ** The principle that correct documents represent the goods is vital for the coffee trade to function. An extreme example is where goods sold basis FOB have been loaded in accordance with the terms of the contract but, on departure the carrying vessel sinks. Even though all concerned know the goods will never arrive the buyer remains obliged to pay for the shipping documents on first presentation: the seller fulfills the contract by submitting the required documents and is entitled to payment. The buyer in his turn has to lodge the necessary claims (shipping company, insurance company).

    Posted 13 February 2008.

    Related chapter(s):
    Related Q & A:
    Q&A 018, 035