What it means
When you buy a foreign draft, you pay the local bank the amount plus a fee, and the bank issues a draft drawn on its account at a bank abroad. The draft is then sent to the recipient, who deposits or cashes it at their own bank.
Because the funds are already paid to the issuing bank, the recipient has far more certainty than with an ordinary cheque. This is the main reason that sellers of high-value goods ask for one.
The draft is the bank's own promise, and it cannot bounce for lack of funds in the buyer's account. Foreign drafts are commonly used when a business is paying an overseas supplier that does not accept cards, or when the recipient has no access to electronic transfers.
They are also used for tuition fees, property deposits and one-off payments abroad where the buyer wants a paper audit trail. The cost has three parts: the exchange rate applied by the bank, a fee for issuing the draft, and often an extra charge when the recipient's bank collects it.
The exchange rate is typically less favourable than the market rate, so the all-in cost can be higher than for a wire transfer. Speed is the main drawback.
A draft has to be physically mailed or delivered and then collected through the banking system, which can take days or weeks, while a wire transfer usually arrives in a day or two. A draft can also be lost, stolen or delayed in the post, in which case it may be reissued only after a stop procedure with extra fees.
For this reason many businesses now prefer electronic transfers, and drafts are used mainly where electronic options are not available.
In practice
Real-world examples.
Example
A small US company buys machinery from a family-owned workshop in Italy. The workshop does not take card payments or international transfers, so the buyer purchases a euro draft and sends it by courier. The workshop releases the machinery once the draft has cleared at its bank.
Example
A parent pays an overseas university's tuition deposit of 12,000 British pounds. The bank issues a draft in pounds, and the university deposits it into its account. The parent keeps the receipt as proof of payment in case the deposit is questioned.
Example
An import firm pays a customs fee to a foreign authority that insists on bank-issued instruments. The finance team uses a draft so the payment is traceable and the authority gets guaranteed funds. The draft number is recorded in the ledger as the payment reference.
Formula
Calculation
Total cost to the buyer = (foreign amount x exchange rate) + issuing fee
Suppose a US company must pay a Canadian supplier 20,000 Canadian dollars. The bank sells Canadian dollars at $0.7500 per Canadian dollar, so the currency cost is 20,000 x 0.7500 = $15,000. The bank charges an issuing fee of $30, and the total cost is 15,000 + 30 = $15,030.
If the supplier's bank also deducts a collection fee of 15 Canadian dollars, the supplier receives 20,000 - 15 = 19,985 Canadian dollars. The buyer can add the fee to the draft amount if the supplier must receive the full invoice value.Case study
Seen in the real world.
Meridian Crafts is an illustrative, fictional gift importer that buys handmade goods from workshops in several countries. A few suppliers in remote areas could be paid only by bank draft, as their local banks had limited online services.
The owner used to pay by personal cheque, which took a month to clear and was twice returned because the foreign bank would not accept it. She switched to foreign drafts, accepting the fee in return for certainty that suppliers received guaranteed funds.
In this illustrative case, supplier relationships improved, shipping times shortened because goods were released on receipt of the draft, and the owner built the draft fee into her landed cost per item. She also began ordering larger batches less often, so fewer drafts were needed and the fixed fee was spread over more goods.
Watch out
Common mistakes.
- Assuming a foreign draft arrives as fast as a wire transfer, when it normally depends on postal and collection time.
- Forgetting the supplier's collection charges, so the supplier receives less than the invoice value.
- Sending a draft without keeping a copy of the details, which makes it hard to trace or replace if it is lost.
Questions
People also ask.
Is a foreign draft safer than a personal cheque?
Yes, because it is backed by the issuing bank, so the recipient does not depend on the buyer's balance, though it can still be lost in transit.
Can a foreign draft be cancelled?
Sometimes, but the bank usually needs the original draft back or must go through a stop and reissue process, which can take time and involve fees.
Why would anyone still use a foreign draft?
It is useful when the recipient cannot receive electronic transfers, or when both sides want a formal paper record of payment.
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