Letters of credit and bank guarantee disputes represent one of the most technical and commercially consequential areas within Banking & Finance Disputes, especially in cross border transactions where certainty of payment, performance and risk allocation is critical. These instruments play a vital role in international trade, construction, energy projects and large scale procurement, providing assurance that obligations will be met even when counterparties are in different jurisdictions or face solvency challenges. When disputes arise over payment, fraud allegations, document discrepancies, wrongful calls or refusal to honour demands, they can derail commercial relationships and expose parties to significant financial exposure. Understanding the legal principles that govern letters of credit and bank guarantees is essential for banks, corporates, contractors, suppliers and private capital investors operating in or from the UAE.
Though often grouped together, letters of credit (LCs) and bank guarantees operate under distinct legal principles. A letter of credit is a payment mechanism whereby a bank irrevocably undertakes to pay a beneficiary upon presentation of strictly compliant documents. A bank guarantee, by contrast, is a promise to pay the beneficiary if the applicant fails to perform. While an LC functions as a primary obligation of the issuing bank, a bank guarantee is typically secondary to the underlying contract. This difference heavily influences how disputes are resolved, particularly regarding fraud claims, documentary discrepancies and injunctions.
LC disputes often arise from discrepancies in the documents that beneficiaries submit for payment, delays in presentation or conflicts between the underlying contract and LC terms. Because the LC operates independently of the underlying commercial agreement, banks examine documents on their face without regard to external circumstances. This strict compliance rule creates predictable outcomes but also frequent disagreements when documents contain minor errors, inconsistencies or formatting defects. Beneficiaries argue for a more flexible interpretation while issuing banks insist that any discrepancy justifies refusal. Disputes also occur over expiry dates, whether electronic documents are acceptable and whether the bank met international banking practice standards under rules such as UCP 600.
Bank guarantees are widely used in construction, infrastructure, energy and supply chain contracts. Because they provide comfort that obligations will be performed, they often become contentious once parties fall out. A beneficiary may call a guarantee alleging non performance, delay or breach, while the applicant argues that the call is abusive, premature or fraudulent. The central legal question becomes whether the guarantee is unconditional and payable on demand or conditional upon proving breach. UAE courts and free zone courts generally uphold the autonomy of unconditional guarantees, making wrongful calls difficult to stop unless there is clear evidence of fraud or abuse of rights.
One of the most important principles governing both LCs and guarantees is autonomy, meaning that the bank’s obligation is independent from the underlying contract between applicant and beneficiary. For LCs, this principle is almost absolute. For guarantees, autonomy remains strong but is more subject to equitable considerations. This principle ensures commercial certainty but creates frustration for applicants who may face payment even when they believe the beneficiary is acting unfairly. Attempts to challenge payment often revolve around allegations of fraud or abuse of rights, which courts require to be proven to a high standard.
The fraud exception is one of the few grounds upon which courts may restrain payment under an LC or guarantee. Fraud must be clear, evident and directly connected to the demand itself. Applicants sometimes allege that a beneficiary falsely claimed breach, manipulated documents or made a demand in bad faith. Courts are cautious in applying the fraud exception because intervening in autonomous instruments risks undermining commercial trust. In free zone courts such as DIFC and ADGM, injunctions may be available where the evidence is strong and urgency is demonstrated. Onshore UAE courts also recognise the fraud exception, though historically with more restrictive application.
Disputes frequently hinge on whether the submitted documents strictly comply with LC terms. Common issues include mismatched shipment dates, incorrect product descriptions, inconsistent signatures, typographical errors or presentation outside the allowed timeframe. Beneficiaries argue that minor deviations do not affect the substance of the transaction, while banks rely on standard banking practice to justify refusal. Arbitration or litigation may be necessary to determine whether the bank acted reasonably under international rules such as UCP 600 and ISBP guidelines. Documentary disputes can significantly delay payment, strain supplier relationships and trigger claims for damages under the underlying contract.
Banks may wrongfully refuse payment due to overly conservative interpretations of discrepancies, misapplication of rules or internal procedural errors. Beneficiaries can pursue claims for breach of the LC, damages for delay and reputational harm. They may also seek expedited relief where cashflow disruption threatens ongoing operations. Courts evaluate whether the bank adhered to international standard banking practice, processed documents within the required timeframe and provided adequate notice of discrepancies. Failed internal processes can expose banks to significant liability.
In disputes involving bank guarantees, applicants sometimes seek injunctions to prevent payment. Courts generally only grant injunctions in cases of fraud, abuse of rights or where the demand is clearly outside the scope of the guarantee. DIFC and ADGM courts are more receptive to urgent injunctive relief where strong evidence exists, whereas onshore courts maintain tighter restrictions. Beneficiaries may seek counter injunctions to ensure payment, arguing that delays frustrate the commercial purpose of the guarantee. These battles can become high stakes, particularly in construction projects where payment security is essential.
Letters of credit and guarantees are heavily used in EPC contracts, real estate development and complex supply chains. Delays or disputes over payment can halt projects, trigger termination clauses and destabilise financing arrangements. Performance guarantees, advance payment guarantees and retention guarantees are particularly sensitive due to their value and commercial impact. Disputes often intersect with underlying claims for delay, defects or variations, requiring coordinated litigation strategies across both the underlying contract and the financial instruments that support it.
Because parties and assets often span multiple jurisdictions, enforcing judgments or arbitral awards relating to LCs or guarantees can be challenging. DIFC and ADGM offer enforcement gateways that facilitate recognition of foreign judgments, while onshore enforcement depends on treaties and UAE procedural law. Beneficiaries may need to coordinate parallel enforcement strategies in multiple countries, particularly where assets are located outside the UAE. Banks facing competing judgments or conflicting orders must navigate carefully to avoid breach of obligations in different jurisdictions.
Many LC and guarantee disputes can be mitigated through precise drafting, early risk identification and proactive communication. Parties benefit from specifying the nature of the guarantee, conditions for calling it, required documents and timelines. Beneficiaries should prepare documents with meticulous accuracy, while applicants should monitor performance to reduce risk of legitimate calls. Banks should maintain rigorous internal processes to ensure compliance with international standards. Early legal advice helps prevent escalation, particularly in high value transactions where the risk of wrongful payment or wrongful refusal is significant.
Letters of credit and bank guarantee disputes sit at the heart of international commerce and major UAE based industries, combining financial, contractual and procedural complexities. By understanding the legal principles that govern these instruments, parties can navigate disputes more effectively and protect both liquidity and commercial relationships. Clear drafting, disciplined documentation practices and timely access to specialist legal insight remain essential to reducing risk and ensuring that payment security mechanisms function as intended.
