Letters of Indemnity – are you sure you’re protected ... ?

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"A Member approached the Club asking for our help to pursue a claim under a Letter of Indemnity (LOI) issued by a charterer / shipper.

LOIs are used all the time – even when, perhaps, they shouldn’t be. Traditionally, there are two parts to an LOI: i) the promise to pay or cover the losses of (i.e., indemnify) the other party; and, ii) an event which, if it occurs, activates the indemnity. They help fill the gaps in the long and formal contracts. They are mini-contracts, if you like, which make business more ... fluid.

For example, where bills of lading are not available at the discharge port, charterers / shippers issue an LOI to owners, promising to indemnify him for any losses suffered from releasing cargo without presentation of the bills. Another example would be where charterers / shippers need clean bills of lading when they should be claused.

But are LOIs all what they are cracked up to be? It is worth bearing in mind that LOIs are not always enforceable, which means that your LOI may not even be worth the paper it is written on ...

Under English law, parties can do and contract to whatever takes their fancy, unless the substance of that contract is prohibited by law. The key bit of that sentence, however, is unless ... prohibited by law. For example, you cannot contractually agree to commit a crime. Any such contract would be ignored by any lawyer or judge – it would be entirely unenforceable, regardless of what payments had been made under it.

Some of the situations in which LOIs are commonly issued are actually an agreement to break the law and, therefore, entirely unenforceable. One of those situations is even given above – do you recognise it? Yes – it is the LOI issued in respect of issuing clean bills. Charterers promised an indemnity in exchange for issuing clean bills, despite knowing that there was damage to the cargo.

When signing the bills, the Master is representing to the receiver that the cargo corresponds with the description given. If the Master knows that description to be incorrect but still issues it, then he has knowingly made a misrepresentation to the receiver. Effectively, he has committed a fraud. Fraud is, of course, a crime. So that LOI cannot actually be enforced. The indemnity provider is free to walk away without any fear of a recourse action from owners.

So, unfortunately, because the master knew the cargo was not as described on the bill, that Member’s LOI was entirely unenforceable and their P&I cover was prejudiced. The Member was left holding the full claim from the defrauded receiver who unexpectedly received damaged cargo with no recourse. They had to rely on commercial pressures to persuade charterers to respond, and even that was not particularly successful.

Always think about what you are being asked to do ... and why. This issue can be buried in fancy wordings, heated debates or justifications of urgent action. If you have any doubts, then feel free to get in touch – that is what we are here for!"

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