The Use Of Escrow Accounts In International Trade Transactions And Implications For Financial Institutions

Payment security is probably one of the most important factors for the parties in any type of international trade transaction. Countless international sale and purchase negotiations fail due to a lack of consensus and assurance regarding payment procedures. For the seller, to be paid on time in full and for the buyer to receive the conforming goods on the exact date of performance constitutes perhaps the key point of the whole trade. Thus, the method chosen to minimize the risks of payment should be determined after meticulous review by the parties' counsel in order to fulfill both parties' definitive expectations.

Providing this type of security in international trade is not often easy and, procedurally, is most of the time up to the financial institutions, which accordingly assume a critical role during the payment procedure.

Author's Note:

Escrow accounts are widely used in many financial systems across the world, especially in the United States. This however, is not the case in Turkey unfortunately. Although the name "escrow account" corresponds to "güvenli hesap (secured/trust account)" in Turkish, due to their lengthy approval procedure and limited areas of utilization, Turkish banks fall far behind their foreign counterparts in the use and establishment of escrow accounts in international trade, compared to United States and many other European jurisdictions. Although using an escrow account can very much be a preferred method of payment in many international and even local trade deals, in Turkey escrow accounts are only used for mergers and acquisitions, while letters of credit and bank credit letters are preferred in merchandising contacts by financial institutions.

Nonetheless, escrow accounts offer a much more practical, and logical payment method compared to letters of credit, and have the potential to provide serious security at the same time in the operation of international trade agreements.


The word "escrow" translates into Turkish as "fiduciary" or "safe", and these words are pretty descriptive of the whole process utilized by escrow accounts. However, a full Turkish equivalent of 'escrow accounts' in banking and trade has not yet settled in the country. Unfortunately, in many local banks, the concept is not preferred for transactions except M&A deals.

Establishing an escrow account is in effect very practical and is used in myriad different kinds of trade all across the world where the parties seek the comforting security of a financial institution and where a neutral third party can be a 'paymaster', i.e. account manager.

Escrow accounts are used in order to provide security for both parties. It is a procedure where a certain amount of funds to be used in the purchase of a good or service subject to the contract is being held in a secure account, in control of a nonparty (neutral 3rd party) during the transaction, and which will then be distributed among the rightful owners after the transaction concludes (i.e when the goods or the services are delivered and good performance is complete). The number of parties involved may be greater than two in any escrow settlement, which makes it very practical even where there are a high number of intermediaries, sellers or buyers are to perform in a given type of international trade transaction.

It is a practical system that is used in order to prevent any monetary damage to the parties involved. For example, during any trade, it is almost always a question for the buyer whether to fulfill their payment obligation before the arrival of the goods or for the seller to ship the goods without first receiving any payment. Escrow accounts provide an assurance similar to those provided by letters of credit, but escrow accounts are easier to operate faster in terms of the necessary documentation and in their procedure. The guarantees escrow accounts provide in terms of payment security are sufficient for the most common international trade transactions. Moreover, compared to letters of credit, escrow procedures can be carried out with the assurance of a single bank -not a few-, and opening escrow accounts requires much shorter time, especially within the customer's own bank.1

Escrow accounts are most essentially a trustee system. A system where, the payment is kept under the guarantee of a bank as a third party neutral financial institution, until the buyer (party who will make the payment) receives the necessary documents or services specified in the contract or the confirmation that the goods or services have been received. This way, the assets to be transferred can be secured for both parties while the transaction proceeds.

The buyer, who is referred to, as the "Depositor", opens an escrow account in accordance with the terms of the agreement set out with the seller and who transfers the financial assets into the escrow account, funding the account and thus creating a "secure account" linked to the agreement. The buyer is incorporated into this account by the bank, or the third party managing the account (as the paymaster). When the obligations rising out of the contract are fulfilled by the buyer who will be entitled to the financial asset, the bank will be instructed by the agreement to transfer the asset in the escrow account to the receiving party within the specified period.


The duty of the bank and the account manager designated as the 'paymaster' are to provide the necessary controls throughout the process and to ensure the smooth transfer of funds by keeping the escrow account safe and clear of any unwanted interference and making the transfer only if the services or documents stated in the contract are received.

This way, in cases where the documents determined by the parties pursuant to the agreement are not received or the service is not provided, the bank may continue to keep the funds in escrow for the specified period instead of transferring to the receiving party. Also, in cases of a violation or termination of the contract, the bank may return the funds to its original owner.

Accordingly, when established in accordance with a detailed contract that provides certain assurances, escrow accounts offer a very effective system in terms of providing security to all the parties of a transaction.

As aforementioned, the key agents in the escrow procedure are the financial institutions, namely banks most of the time. Therefore, the reliability of the institution is the most important factor that ensures the overall security of the transaction.


As part of everyday international trade, purchase and sale agreements have inevitably reached an extremely high volume worldwide. The most important factor for the parties in any foreign trade transactions is to provide the maximum level of payment security and assurances. That is, to be protected against situations in which a given party's` failure to perform or any type of default can be dealt with  at a low cost.2

The three most commonly used financial procedures that provide such assurance in international trade are letters of credit, bank credit letters (or bank letters of guarantee as are more commonly used in Turkey) and escrow accounts.

The use of escrow accounts in international trade protects the seller, the buyer and any intermediaries in between by protecting the financial assets subject to the agreement in the presence of an independent third party and provides a practical formation while eliminating serious risks -since the paymaster is to only make the transfer when specific conditions are met.

To briefly explain the usage; as a first step, the institution to provide the escrow service will receive the funds from the buyer. The institution, usually the bank, will inform the buyer that the assets have been received and the escrow if funded. Correspondingly, the seller is going to perform, or ship the goods pursuant to the written agreement. Usually, the institution that provides the escrow service can track this shipment and provide an extra assurance to the whole procedure. Therefore, when the goods or services are delivered to the buyer, the institution that holds the escrow account will automatically be informed about the delivery. After the delivery of the goods, the buyer will have a certain period of time – as determined in the contract- to hold the necessary inspections and in this period, the buyer will notify the parties on whether the goods have been delivered in compliance with the contract. Following the buyer's approval, the escrow account manager will transfer the agreed upon funds in the escrow account to the seller`s (receiving party) account, as well as any other intermediaries (such as commissioners or attorneys who are to be paid a percentage or certain agreed upon sum from the account), and that trade deal will conclude under the guarantee of a third neutral financial institution for all the parties involved.3

The bank where the escrow account is established will usually charge a fee for setting up and for the management of this account. This fee us usually between 1% or 2% of the transaction volume. The escrow agent and institutions fee, as well as which party to the transaction will be covering this fee should explicitly be stated in the contract in order to avoid any later confusion. Either one of the parties or both of them may jointly pay the fee determined by the financial institution for the management of the escrow account. The fee to be paid to the financial institution in return for this service is often a more economical alternative than using letters of credit.

Escrow accounts offer a highly preferable alternative for both buyers and sellers especially in certain scenarios. Foremost among these are the cases where the credit rating of the buyer is not sufficient and cannot provide the amount of trust necessary or when it is unavailable all together, where the buyer is a newly established company etc. Similarly, escrow appears as a method that provides assurance in cases where the buyer is a new customer or has not performed similar commercial operations in the past and cannot provide proof of transaction history.

Additionally, escrow accounts can provide protection for both parties if there is an extremely high demand for the product to be sold and myriad buyers are competing. Finally, escrow account provides a serious assurance in cases where the political and economic stability of the country where the buyers business is located is called into question. In general, where there are doubts on the buyers financial standing or where there is uncertainty regarding the seller's ability to carry out the shipment, escrow provides a certain degree of guarantee for the parties in international trade. 4

In addition to offering a much more flexible and practical procedure compared to letters of credit, escrow procedures operate with a single bank as opposed to the multiple bank procedure required in letters of credit. Accordingly, the costs are higher in the letter of credit procedure. However, since the multiple bank setup provides an extra protection, LC's may still be preferred in certain, riskier international trade deals.

Furthermore, because the escrow account management is carried out according mainly to the escrow agreement, the parties have the autonomy to determine the provisions after negotiations and as they please. Consequently, escrow accounts have the potential to offer a more flexible structure for both parties, compared to letters of credit.

Once signed, the escrow agreement will be a legally binding document and the parties will have to agree in writing to make any amendments or additional protocols, in compliance with the agreement. The escrow account manager shall not accept any other instructions which do not fall under the escrow agreement.


The institution or individual third party offering the escrow service does not necessarily have to be a bank, and when it is not there is the probability that certain risks may arise. The reliability of the neutral third party providing the escrow service, as aforementioned, should be scrutinized just like the bank in a letter of credit transaction. Therefore, in our opinion, the escrow service provided by internationally operating banks should always be preferred over other local options.

Apart from this, the text of the escrow agreement should specifically outline the provisions to be applied in cases of default, failure to meet any of the obligations, penal clauses and the delay periods. This document will serve as the constitution of the escrow account, as this will be the document governing the procedures, deadlines and under what conditions the funds will be transferred. So much so that, since the escrow agreement and the provisions within are determinative in this relationship, it is essential that the agreement includes clear and detailed provisions that anticipate any problems that may arise during the trade relationship.5

Apart from the two aforementioned general precautions, it is worth noting that escrow account managers are generally not obliged to disburse the money to the seller until the goods are inspected and approved by the buyer. Therefore, it is essentially the buyer who will approve of the release of funds. On the other hand, when operating with a letter of credit as the payment procedure, the submission of documents that indicate the shipment has been made is generally sufficient for the bank to release the payment amount to the seller. Yet, since the provisions of the escrow agreement will always be determinative in the relationship between the parties and therefore also for the escrow manager, adding provisions that contain alternative solutions that foresee this situation while preparing the agreement will minimize the risks.

It is important to designate the applicable law for any disputes that may arise about the escrow account and agreement–especially when the parties to the escrow agreement are from different jurisdictions.

The escrow agreement should always clearly include the obligations of the third party individual or institution that is to provide the escrow services, the buyer and the seller and should also determine their limitations. The more these provisions include alternative situations and are detailed, the less uncertainty and risks the situation will be subject to. The escrow agreement should include provisions on how soon, by what method or by whom the inspection will be carried out after the delivery of the products (if the inspection is to be conducted and reported not by the buyer but by another institution) and how much of the payment and at what rate, will be released if any issues arise during the inspections. In addition, consequences of the buyer withholding approval without any substantial or reasonable evidence should also be detailed in the agreement.6


The main contract that outlines the rules governing the international trade between the parties or the transaction to be performed constitutes the basis of the escrow agreement. The escrow agreement is prepared based on the main contractual relation referencing the main trade or service contract. Therefore, the main contract that designates the relationship between the parties needs to be duly scrutinized, because this outlines the relationship that will determine many of the risks for the financial institution as well. The escrow account manager has to manage the account in light of the information received from the parties, but in accordance with the escrow agreement and the main agreement to which the escrow agreement is attached to. Therefore, the account manager should have detailed information about the trade or service that is to take place in order to avoid any misconceptions.

Since the main purpose behind using an escrow account is to keep the assets subject to the agreement in a "neutral zone" of safety until the conditions stated in the main agreement are met, the circumstances and obligations that surround the transfer of assets must be clearly outlined in the escrow agreement. Additionally, it is critical for the bank to trust the parties individually, since the parties' statements in certain instances may form the basis basis of the manager's actions –especially during the delivery stage of purchase and sale agreements (if an independent third party is not designated for the inspection and control of delivery). The bank must have a detailed understanding of the terms that cover the payment instructions especially under which conditions the funds in question can be transferred to the receiving party and under which conditions the funds can be returned to the account holder in case of a violation.

These outlined factors are some of the main reasons why banks in Turkey are usually hesitant in their approach towards the use of escrow procedure in commercial purchases and sales transactions.


While escrow accounts, which offer a much less burdensome alternative compared to letters of credit, are widely used in many European countries and the United States, these accounts are not preferred by banks in Turkey for international purchase and sale agreements. However, if utilized correctly, escrow accounts will provide a highly secure payment method when the process is managed by the right legal counsel and sufficient guarantees are provided in the escrow agreement. In fact, the escrow system can in many scenarios be preferred to other methods of payment both in international and local trade deals.

Using escrow accounts for the payment procedure of commercial purchase and sale agreements will be practical both for the buyer and the seller in terms of time and effort and will provide notable assurances simultaneously.

However, it should be noted as a final remark that each and every product and purchase and sale agreement is unique and thus has special circumstances and considerations by parties that need to be addressed. Accordingly, the payment terms should be determined based on a case by case analysis, taking into consideration the parties' priorities and the products' features and evaluating those.


1 For more detailed information about letters of credit, you can review our previous article:




5 Risks and benefits to using escrow services in international trade

6 Risks and benefits to using escrow services in international trade

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