Incoterms 101: A Guide to International Shippers
Discover the world of Incoterms®, the internationally recognized trade rules that govern responsibilities, costs, and risks in global transactions. Understand how Incoterms® streamline international purchases, ensuring clarity and legal compliance. Improve your import-export operations with clearly stated Incoterms® on shipping documents.
The use of Incoterms helps avoid misunderstandings and minimizes the potential for disputes between trading partners. Each Incoterm clearly delineates the point of delivery, transfer of risk, and the moment when the responsibility for the goods shifts from the seller to the buyer. This level of clarity enables a smoother flow of trade, reducing delays and uncertainties that may arise during transit.
Understanding and using the correct Incoterms® is of utmost importance for businesses engaged in international trade. These standardized trade terms play a critical role in determining the specific responsibilities of both buyers and sellers, thus ensuring smooth and efficient cross-border transactions.
Incoterms® 2020, published by the ICC, are currently in effect and will continue to govern international trade in 2023 and beyond until the next update. The ongoing revisions demonstrate the commitment of the ICC to adapt Incoterms® to the dynamic global trade environment.
In all international purchases, an agreed-upon Incoterm will be used to specify the party responsible for incurring costs and risks. These Incoterms® will be explicitly stated on relevant shipping documents, ensuring clarity and adherence to established trade rules.
What are Incoterms®?
Incoterms®, short for International Commercial Terms, constitute a set of 11 globally recognized trade terms extensively employed in international commerce. These standardized terms, meticulously compiled by the International Chamber of Commerce (ICC), serve a vital purpose: to elucidate the specific roles and obligations of both buyers and sellers engaged in cross-border transactions.
Incoterms are actually divided into four main categories E, F, C and D. These terms are used in international trade to define the responsibilities and obligations of buyers and sellers regarding the delivery, transport, and risk transfer of goods. Each category represents different stages of the shipping process and determines who is responsible for various costs and risks.
Differences Between Incoterms® 2010 and Incoterms® 2020
New Incoterm® DPU Replaces DAT
In Incoterms® 2020, the previous term DAT (Delivered at Terminal) has been replaced by DPU (Delivered at Place Unloaded). This change was made to eliminate confusion caused by the term “Terminal” in DAT. The new term, DPU, now covers delivery to “any place, whether covered or not.”
Different Insurance Cover between CIF and CIP
Under Incoterms® 2020, there is a difference in the level of insurance cover required for CIF and CIP. In Incoterms® 2010, both CIF and CIP required insurance coverage under Institute Cargo Clause C. However, in Incoterms® 2020, CIP now necessitates insurance cover complying with Institute Cargo Clause A, which offers a more comprehensive level of insurance suitable for manufactured goods, while Clause C would likely apply to commodities.
CIF remains the same, requiring ‘Institute Cargo Clause C’ insurance cover, which covers a specific number of listed risks, subject to itemized exclusions. While, CIP now requires an upgraded ‘Institute Cargo Clause A’ insurance cover, which provides coverage for all risks, subject to itemized exclusions.
The four main categories of Incoterms®:
1. E term, also known as the “Departure” category which contains only one trade term (Ex Works):
The seller delivers the goods at their premises (e.g., factory, warehouse, etc.) and the buyer bears all risks and costs from that point onwards.
Seller’s Obligations:
The seller must deliver the goods on the agreed date and location, suitably packaged for transportation. The seller must also provide all necessary documentation, including commercial invoices, packing lists, and certificates of origin. Customs clearance assistance may be optional.
Buyer’s Obligations:
The buyer assumes all costs and risks once the goods are available at the agreed place. The buyer is responsible for arranging carriage and clearing the goods for import, if needed. Payment to the seller is required for the goods.
Ex Works (EXW) is an ideal Incoterm for buyers seeking maximum shipping process control. It is also beneficial for sellers based in countries with high import duties, as the buyer assumes responsibility for paying these duties.
However, Ex Works places minimal responsibilities on the seller. Consequently, the buyer must be prepared to handle much of the shipping process. If the buyer finds this arrangement challenging, they should explore Incoterms with more seller responsibilities, such as FCA or CPT. These alternatives could offer a better fit for their shipping needs.
2. F terms, or “main carriage unpaid” terms which contain three trade terms:
They are a specific group of Incoterms® that place the risk of loss or damage to the goods on the buyer when the goods are placed on board the ship at the named port of shipment. The term “F” stands for “Free” and is followed by a three-letter abbreviation indicating the specific point of delivery and transfer of risk.
Free on Board (FOB) – On board the ship
- The seller is responsible for delivering the goods on board the ship at the named port of shipment.
- The risk of loss or damage to the goods transfers to the buyer once the goods are on board the ship.
- The seller is responsible for clearing the goods for export.
Free Alongside Ship (FAS) – Alongside the ship
- The seller is responsible for delivering the goods alongside the ship at the named port of shipment.
- The risk of loss or damage to the goods transfers to the buyer once the goods are alongside the ship.
- The seller is not responsible for loading the goods onto the ship.
Free Carrier (FCA) – To a carrier nominated by the buyer
- The seller is responsible for delivering the goods to a carrier nominated by the buyer at the named place in the seller’s country.
- The risk of loss or damage to the goods transfers to the buyer once the goods are delivered to the carrier.
- The seller is not responsible for loading the goods onto the carrier.
Main differences of each F terms:
The main difference in terms of export clearance is that in FOB and FAS, the seller is responsible for clearing the goods for export, while in FCA, the seller is not responsible for this aspect. It’s crucial for both parties to have a clear understanding of the chosen Incoterm to avoid any confusion or potential issues during the international trade process.
3. C terms, or all “main carriage paid” terms which contain four trade terms:
They are a group of four terms that define the responsibilities of the seller and buyer when goods are being shipped internationally. The C terms are:
CIF (Cost, Insurance and Freight, also known as CIF) – Transfers at port of shipment
An Incoterm® rule that defines the responsibilities of the buyer and seller when goods are shipped by sea or inland waterway.
The main responsibilities of the seller under CIF includes:
- Delivering the goods, cleared for export, on board the vessel at the port of shipment.
- Paying for the carriage of the goods to the named port of destination.
- Obtaining and paying for minimum insurance coverage on the goods.
- Providing the buyer with the insurance certificate and other shipping documents.
The main responsibilities of the buyer under CIF includes:
- Paying the agreed price for the goods.
- Clearing the goods for import at the destination port.
- Taking delivery of the goods at the destination port.
CIF is a widely used Incoterm® rule, and it is particularly suitable for goods that are not easily damaged or lost during transit. However, it is important to note that the buyer is still responsible for any losses that occur after the goods have been delivered at the destination port.
Let’s look at an example to understand how CIF (Cost, Insurance, and Freight) works in international trade:
Example Scenario:
Company A, located in the United States, wants to purchase a shipment of electronic goods from Company B, located in China. They agree to use CIF terms for the transaction.
Incoterm: CIF Agreement
Both companies have agreed upon a CIF price of $10,000 for the goods. This price includes the cost of the goods, insurance coverage, and freight charges for transporting the goods from the port of origin in China to the port of destination in the United States.
Responsibilities under CIF Terms:
- Cost of Goods: Company B, as the seller, bears the responsibility for the electronic goods’ cost and organizes their delivery to the port of origin in China.
- Insurance: Company B, as the seller, is also responsible for obtaining insurance coverage for the goods during transit. This insurance will protect against any potential loss or damage to the goods while they are in transit from China to the United States.
- Freight Charges: Company B, as the seller, is also accountable for covering the freight charges to ship the goods from the port of origin in China to the port of destination in the United States.
- Risks and Transfer of Ownership: The risks associated with the goods transfer from Company B (the seller) to Company A (the buyer) once the goods are loaded on board the vessel in China. At this point, the ownership of the goods also transfers from the seller to the buyer.
- Import Customs and Duties: Company A, the buyer, is responsible for handling import customs clearance, paying any applicable customs duties, and taking delivery of the goods at the port of destination in the United States.
In this scenario, the CIF terms provide Company A (the buyer) with a comprehensive and transparent price for the goods, covering transportation and insurance costs up to the port of destination. Company B, as the seller, assumes responsibility for the goods’ security during transit and arranges their transportation to the buyer’s specified port.
In general, CIF is a favorable Incoterm® rule for goods that are less susceptible to damage or loss during transit. Nevertheless, it is crucial to assess the pros and cons thoughtfully before choosing to employ CIF.
CIP (Carriage and Insurance Paid To) – Transfers at named destination
An Incoterm utilized in international trade to specify the obligations of both the buyer and seller when transporting goods via any mode of transportation.
The key responsibilities of the buyer and seller under CIP terms are as follows:
Buyer:
- Pays for import duties and taxes
- Arranges for the clearance of goods through customs
- Takes delivery of the goods at the named place of destination
Seller:
- Clears the goods for export
- Delivers the goods to the carrier at the named place of shipment
- Pays for the cost of transportation and insurance to the named place of destination
- Provides the buyer with the necessary shipping documents
- Obtains and provides the buyer with an insurance policy that covers the goods for 110% of their value
The CIP term is commonly preferred by buyers seeking greater control over the import process. They are responsible for paying import duties and taxes and arranging customs clearance. On the other hand, the CIP term can be used by sellers aiming to reduce their risk. Once the goods are delivered to the named place of destination, the seller is not liable for any losses or damages, provided they have obtained the appropriate insurance.
CFR (Cost and Freight) – Transfers at port of shipment
–is an Incoterm that is used in international trade to define the responsibilities of the buyer and seller when shipping goods by sea.
The key responsibilities of the buyer and seller under CFR terms are as follows:
Buyer:
- Pays for import duties and taxes
- Arranges for the clearance of goods through customs
- Takes delivery of the goods at the port of destination
Seller:
- Clears the goods for export
- Delivers the goods onboard the ship at the port of departure
- Pays for the cost of transportation and insurance to the named port of destination
- Provides the buyer with the necessary shipping documents
The CFR term is commonly chosen by buyers seeking greater control over the import process. They are responsible for paying import duties and taxes and arranging customs clearance. However, the CFR term can also be utilized by sellers aiming to reduce their risk. Once the goods are delivered to the port of destination, the seller is not liable for any losses or damages that may occur to the goods.
The CFR term is an advantageous choice for buyers seeking more control over the import process and for sellers aiming to minimize risk. However, it’s essential to recognize that the CFR term does not encompass all the costs related to importing goods. Buyers should be mindful of potential additional expenses, such as import duties and taxes.
CPT (Carriage Paid To) – Transfers at named destination
-is an Incoterm that is used in international trade to define the responsibilities of the buyer and seller when shipping goods by any mode of transport.
The key responsibilities of the buyer and seller under CPT terms are as follows:
Buyer:
- Pays for import duties and taxes
- Arranges for the clearance of goods through customs
- Takes delivery of the goods at the named place of destination
Seller:
- Clearing the goods for export
- Delivering the goods to the carrier at the named place of shipment
- Providing the buyer with the necessary shipping documents.
- Covering the cost of transportation to the named place of destination
The CPT term is frequently selected by buyers seeking greater control over the import process. They are responsible for paying import duties and taxes and arranging customs clearance. However, the CPT term can also be used by sellers aiming to reduce their risk. Once the goods are delivered to the named place of destination, the seller is not liable for any losses or damages that may occur to the goods.
The CPT term is a beneficial choice for buyers seeking greater control over the import process and for sellers aiming to minimize risk. However, it’s crucial to recognize that the CPT term does not encompass all costs associated with importing goods. Buyers should be mindful of potential additional expenses, such as import duties and taxes.
Main differences of each C terms:
The main difference between the C terms is the level of risk that the seller bears. In CFR, the seller bears the risk of loss or damage to the goods until they are loaded onto the ship at the port of departure. In CIF, the seller also bears the risk of loss or damage to the goods during the sea voyage. In CPT and CIP, the seller bears the risk of loss or damage to the goods until they are delivered to the buyer’s named destination.
The primary distinction between CFR and CIF lies in the inclusion of insurance. Under CIF, the seller takes the responsibility of arranging insurance for the goods during the sea voyage. Conversely, in CPT and CIP, it is not the seller’s obligation to arrange insurance, but the buyer may decide to do so if they wish.
Another contrast among the C terms is related to the mode of transportation they cover. CFR and CIF are specifically applicable to sea and inland waterway transportation. On the other hand, CPT and CIP can be utilized for any mode of transport, including air, rail, and road.
Finally, the C terms differ in terms of cost. CFR and CIF are generally more expensive than CPT and CIP, because the seller is responsible for arranging insurance and paying freight charges all the way to the port of destination. CPT and CIP are less expensive, because the seller is only responsible for paying freight charges up to the named destination.
4. D terms, or all “arrival” terms which contain three trade terms:
They are Incoterms that describe the responsibilities of the seller and buyer when goods are being transported to a destination country. The three D terms are:
DDP (Delivered Duty Paid)
The seller delivers the goods to the buyer at a named place in the destination country, cleared for import and ready for unloading. The seller is responsible for all costs and risks up to this point, including import duties and taxes.
Here is a breakdown of the responsibilities of the seller and buyer under DDP:
Seller:
- The seller is responsible for arranging and paying for transportation of the goods to the buyer’s designated location.
- The seller is responsible for obtaining import permits and licenses, and for paying any import duties, taxes, and customs clearance fees.
- The seller is responsible for insuring the goods for the full value during transit.
- The seller is responsible for delivering the goods to the buyer’s designated location in good condition and ready for unloading.
Buyer:
- The buyer bears the responsibility of furnishing the seller with essential import process details, which include the buyer’s import license number, the consignee’s name, and the address of the designated location.
- Upon the goods’ arrival, the buyer is accountable for inspecting them and promptly notifying the seller of any damage or discrepancies.
- Any additional costs arising after the goods’ delivery, like storage fees or demurrage charges, are the buyer’s responsibility to settle.
DDP is considered the most comprehensive Incoterm, commonly chosen by buyers aiming to minimize their participation in the import process. Nonetheless, it is essential to recognize that DDP can also be the most expensive Incoterm, as the seller assumes responsibility for all costs related to importing the goods.
DAP (Delivered at Place)
The seller delivers the goods to the buyer at a named place in the destination country. The seller is responsible for all costs and risks up to this point, including unloading the goods from the transport vehicle.
Under the DAP Incoterm, the seller is responsible for delivering the goods to the designated location, ready for unloading. The buyer is responsible for unloading the goods and covering any further costs or risks after delivery. This term allows the buyer to have more control over the import process, as they are responsible for customs clearance and other related tasks. It is essential for both parties to communicate clearly and agree on the specific named destination to ensure a smooth and successful transaction.
Seller’s responsibilities
Arranges carriage of goods to the named destination. Pays freight charges.
Buyer’s responsibilities
Unloads goods. Clears goods for import. Pays import duties and taxes.
DAP is a favorable option for sellers aiming to reduce the risk of loss or damage to goods during transit. However, it’s important to note that DAP can also be comparatively more expensive than other Incoterms, such as EXW or FCA. Sellers should carefully consider the cost implications before choosing this term.
DPU (Delivered at Place Unloaded)
The seller delivers the goods to the buyer at a named place in the destination country and unloads them from the transport vehicle. The seller is responsible for all costs and risks up to this point, including unloading the goods.
DPU, or Delivered at Place Unloaded, is an Incoterm that defines the responsibilities of the seller and buyer when goods are being shipped internationally. Under DPU, the seller is responsible for delivering the goods to the buyer’s named destination, unloaded from the arriving means of transport. The seller bears the risk of loss or damage to the goods until they are unloaded. The buyer is responsible for clearing the goods for import and paying any import duties or taxes.
Seller’s responsibilities
Arranges carriage of goods to the named destination. Pays freight charges. Unloads goods.
Buyer’s responsibilities
Clears goods for import. Pays import duties and taxes.
DPU is a favorable option for sellers seeking to reduce the risk of loss or damage to goods during transit. However, it’s essential to note that DPU can also be comparatively more expensive than other Incoterms, such as EXW or FCA. Sellers should carefully consider the cost implications before opting for this term.
The D terms Incoterms® are all “arrival” terms, which means that the seller’s responsibility ends when the goods arrive at the named place in the destination country. The buyer is responsible for unloading the goods and clearing them for import.
The D terms Incoterms are advantageous for sellers aiming to reduce risk and ensure safe arrival of goods in the destination country. However, they can also be costlier for sellers, as they bear all expenses and risks up to the point of delivery. Sellers should weigh these factors carefully before selecting a D term Incoterm.
Tips for Using Incoterms Effectively:
To use Incoterms effectively, consider the following tips:
- Understand the terms thoroughly before entering into an agreement to avoid misunderstandings.
- Be specific in contract negotiations to ensure both parties are clear on their obligations.
- Communicate clearly with all parties involved in the transaction to minimize potential issues.
- Regularly review and update Incoterms based on changing business needs and regulations.
Conclusion
In conclusion, Incoterms are invaluable tools for businesses engaged in international trade. By providing a standardized language for trade terms, Incoterms enable clear communication and reduce uncertainties, fostering successful global transactions. Understanding and selecting the appropriate Incoterms are essential for businesses seeking to thrive in the competitive world of international commerce.
