Letter of Indemnity (LOI)

The focus of this paper is to highlight the ever-increasing reliance on letter of indemnities being offered and accepted without fully comprehending its purpose and enforceability from the perspective of the P&I clubs and the law.

This is extremely relevant from the point of view of vessel owners and managers whose vessels are employed to carry Steel and other such sensitive cargos, which have the potential to change characteristics enroute during a see passage product. In-spite of cargo condition surveyor being surveyed, are often seen with their vessel masters "coerced" into issuing / endorsing Clean Bill of Ladings (which is inline with demands of the LC terms or the trade facilitator/financeable.

It is not uncommon for owners and or their P&I clubs to seek surveyor’s assistance for a pre-loading or during loading cargo condition survey. While most surveyors understand the scope of the services requested and expected to be offered, it is generally seen that their interactions in assisting the Master during documentation is lacking, simply because it is felt that an offer of a LOI in all cases will indemnify owners against liabilities and consequences arising from signing “Clean Bill of Ladings” This in entirety is not true and surveyors are required to exhibit greater knowledge of the general principals of a LOI and its enforceability (which is always doubtful on enforceability).

In simple terms, the general principle of a LOI can be understood as an enforceable promise made by (A) to (B) to hold (B) harmless against any liability or loss (B) may incur in complying with a request made by (A). However, to an underwriter of third party liability (P&I Clubs) it indication of pre-existing reservations & not accidental or unexpected as a claim, hence they reserve the right most of times toward payouts if claims are directly linked to the LOI being issued.

Within the shipping fraternity, LOI’s are known to offer commercial flexibility in many circumstances, and it aids to perform a contract without undue delay at the same time protecting the rights of the party asked to perform the requested task so that commerce may flow uninterrupted.

Therefore in legitimate circumstances the law recognizes the usefulness of the LOI and courts are ready to enforce the terms of the LOI, SUBJECT TO ONE MAJOR EXCEPTION.

There are instances where LOI’s are often used to facilitate acts which are construed as fraud or illegal, and this exception forms the crux of the relevance in which the circumstances a LOI is issued.

Cargo condition Surveyors and Masters should be mindful that for example – most international trade is conducted basis a letter of credit, which provides that payment be made against a "Clean bill of Lading"

In these circumstances Shippers and sellers of cargo sometimes request carriers to release clean bills of lading even though the cargo is clearly not in apparent good order and condition. Such requests are often accompanied by the offer of an LOI which is intended to protect the carrier. (Third party liability).

In such circumstances the LOI is construed as being used to persuade the carrier to deceive the buyer, and if the carrier were to do so, he would be knowingly become part of the fraud. It is therefore stated that courts will not be willing to enforce the LOI terms in such circumstances.

It is therefore very likely that the carrier will have no defense to the buyers claim as the courts will opine that carriers have participated in a fraud, which will in turn prejudice the carriers P&I cover.

In order to understand this better, it is important for carriers, and cargo surveyors assisting carriers Masters to comprehend the International group of Clubs stand and recommendation in this, based on the custom of the trade and its applicable insurance.

There are 2 scenarios or circumstances that are required to be considered.

Consequently such a request is often followed by an LOI issued by the seller. Should it be known that a clean bill of lading has been issued against a cargo that is known to be damaged, the International Group of clubs have clearly specified that carriers will not have a compromised protection of their P&I cover.

Consequently, it must be clearly understood that any LOI that may be given to the carrier in such circumstances is normally unenforceable as an illegal contract because its purpose is to potentially commit a fraud on the buyer. Therefore, any carrier who agrees to comply with such requests will normally find that they may be liable for fraud without any protection either by way of insurance or by way of LOI. (Gard GUIDANCE ON CARGO CLAIMS)

This is where things get tougher and a further impetus is required for the cargo surveyor in observing, reporting and monitoring the condition of the cargo to its fullest extent.

Simply put - it is a requirement of P&I cover that bills of lading accurately state the condition of the cargo on loading, and thus unless there is a genuine doubt whether or not the cargo is damaged, it may be that an indemnity given in these circumstances is valid.

It is therefore important for the cargo surveyor, assisting the carriers Master, to determine that the LOI accepted was to indulge in a fraud or to break an impasse.

Cargo Surveyors should also bear in mind though - that it is normally difficult to think of circumstances where the actual condition of the cargo may not be known, especially in view of the presence of the surveyor on board for this very purpose, thus in circumstances like these, unless a demonstrable good faith is evidenced, acceptance of LOI in such cases may also be construed as fraud leaving the carriers defenseless against potential claims.

With over 8000+ cargo condition surveys under our belt, and by assisting numerous owners and carriers over a period of 14 years, Constellation Marine Services cargo surveyors fully comprehend that compliance to documentation and terms of carriage and its cover are equally important, if not more, than observing, depicting and reporting the condition of the cargo itself.

We have clear knowledge on the technical aspects of contracts of carriage and their requirements with mandate to assist Masters in documentation to the extent able to protect their interests.