I have been seeing a large number of questions on the merits of "escrow" as a method of payment, and also its comparisons with LC as another method of settlement. This article aims to briefly compare both the methods. But first the disclaimer: I have never used escrow; my information is only from what I have read on the net about escrow. Hence, this comparison is based only on that premise, and limited by such understanding.

Comparisons:
1. The seller has to pay for shipment, even if the sale is on a FOB basis.

Implications:

(a) Sellers money is stuck till the buyer accepts the goods. Strain on exporters cash flow. [In LC transactions, no payment of freight is called for on FOB shipments. In fact, the seller gets paid full value immediately on negotiation of documents.]

(b) If the transaction goes into dispute, not only the cost of goods, but the freight charge too gets stuck for a long time. [Dispute is a remote possibility if documents are approved by the bank. For confirmed LCs, once negotiated the payment is final and irreversible. ]

2. Buyer must deposit funds with the escrow before shipment is made.

Implications:
(a) Possible cash flow problem for the buyer. [In contrast, under an LC he pays the bank only after documents have been approved by his bank. Never in advance.]

(b) LC or no LC, under DA terms buyer could even pay after taking shipment and sale of goods. No such facility under escrow mode of payment.

3. The buyer gets time to accept or reject the goods.

Implications:
(a) Advantage for the buyer. Bad for the seller, as he does not get paid immediately on delivery, even if the sale is on a CAD/COD (Cash on delivery) basis. [If a non-LC ** bills is sent through a bank, buyer receives funds immediately after buyer pays the bank. Under LC (** or DA terms) he gets paid even earlier, at the time of negotiation/acceptance.]

(b) Seller loses use of funds. Time when he will get his funds is not determined at the time of shipment. Depends on the escrow companys schedule and rules. At the same time, seller pays interest to bank for his working capital.

(c) Pays higher premium on export credit for his non-LC bills.

4. Sellers receive their money if and when the buyer accepts the merchandise.

Implications:
(a) For the seller, not any better from if the bills had been sent on DA basis through a bank. Actually, it is more risky, since the payment is subject to whims and fancies of the buyer, and there is no protection of an accepted usance draft. The accepted draft could have been used by the seller to proceed legally against the buyers refusal to pay on due date.

(b) No good for the buyer either even if he refuses the goods, since his money would be stuck with the escrow company till the dispute is resolved. When, how long&who can say?

5. Each form of payment takes a different length of time to process, and has different limits. For example, Escrow.com says that money order and check payments have a limit of $2000, and are subject to a 10 day banking hold. And...

6. Each of the payment options has a different transaction fee payable to the escrow company.

Implications:
(a) Where is the clarity in procedure, transparency and certainty!

7. Upon delivery of the shipment, the seller must accept or reject the returned merchandise within a fixed number of days or the inspection period will automatically expire.

Implications:
(a) If it happens to take more time to resolve a dispute, either party may be at risk of losing control over the goods.

(b) The rules of the game are not set by any internationally accepted procedure or body, or by the buyer or seller. !

(8) The entire operation in an escrow service depends on the integrity of the escrow company concerned. One would have to do some research to find out if one should trust that company with one's money, and whether - at the end of the day - the will still be there, and deliver.

I could add at least ten more points of comparison, but let me conclude by saying that LCs operate under a set of internationally accepted and approved rules, are time tested, and generally accepted by courts around the world. The rules have been approved and signed for by more than 160 countries, are backed by the local and international chambers of commerce and their governments, have a transparent grievance redressal and dispute resolution system, are supported by innumerable case laws that are also endorsed by the judicial systems of various countries. Finally, there are experts and professional (inside banks and outside) on LCs if help is required by a buyer or a seller.

It would be interesting to calculate the cost of funds, losses on exchange rates, loss of interest, the total of the explicit, implied and hidden cost, the uncertainty factors on account of possible delays and the time lag built into the system of escrow in processing at each stage and the facts above  in comparison with LCs used in international settlement.

Given a choice, I'd always, every time, choose reputed international banks (that are invariably governed by their respective countrys' Central Banks) over a privately owned escrow company. In my opinion, an escrow system settlement of international trade is not a win-win situation for the buyer or the seller as is the case in an LC transaction; actually (if I had to choose) not much of a choice - everything considered, if compared with Letters of Credit.