Incoterms, or International Commercial Terms, play a hugely significant role in international logistics. The terms a deal is completed on can have a big impact on the overall price and the margins of the consignor and consignee. They are also some of the most confusing aspects of trade and take a while to get your head around.
It's vital to understand your exact obligations with the incoterms that are outlined in the deal.
In this article, we will explain the latest version of the Incoterm codes in detail, deciphering all the key terms you need to understand and explaining the obligations on each business in a trade. We will then help guide which incoterms will be best suited to your business.
What are Incoterms?Put simply, Incoterms are used to outline the logistical obligations on the buyer and the seller when trading internationally.
They are vital to the international shipping process, being used to specify which party will organise and pay for various stages of the journey.
More specifically, Incoterms are used to:
- Explain the costs and obligations incurred between the buyer and seller. The shared nature of Incoterms allows for a clear, straightforward understanding between the two respective parties.
- Allow for a clear understanding of who carries the risk involved with cargo, allowing both buyer and seller to be on the same page.
- Make it easier for communication between the numerous parties involved in the shipping process, such as customs brokers, financiers, carriers, and freight forwarders.
Incoterms 2020 Table of Responsibilities
The 11 incoterms 2020 explained in more detail:
Ex-Works (EXW):
EXW places the maximum responsibility onto the buyer. It means that the goods are no longer the responsibility of the seller once they've been placed at an agreed location, which is likely their own warehouse.
The seller is under no obligation to load the delivery onto any collecting vehicle or clear them for export. Only for packaging the goods for transport. There are very few obligations on the seller.
Free Carrier (FCA):
FCA means that the goods are considered to be delivered to the buyer in two different ways:
- In the case of the named delivery point being the seller's premises, the goods are considered to be delivered once they're loaded onto the buyer's transport.
- In the case of the named delivery point being another location, the goods are considered to be delivered once they have been loaded into the seller's transport and reach the other named delivery location.
The place of delivery identifies the point at which risk transfers to the buyer. In both scenarios, the seller is responsible for export clearance, the buyer takes responsibility after delivery.
Carriage Paid To (CPT):
CPT means that the risk is transferred to the buyer once the seller hands the goods over to the carrier. The seller doesn't have to guarantee the goods will reach the buyer, as risk transfers from the seller to the buyer once they have been handed over to the carrier.
Carriage and Insurance Paid To (CIP):
CIP means that the risk is transferred to the buyer, and the goods are considered delivered, when the goods are handed over to the carrier. The seller is also responsible for insuring the goods being transported.
Delivered at Place (DAP):
DAP means that the goods are delivered, and risk has been transferred to the buyer, once the goods have arrived at the agreed-upon destination and are ready for unloading. The buyer only takes responsibility for the importing customs clearance.
The seller bears all risk when transporting the cargo to the agreed-upon destination. For this rule, delivery and arrival at destination are identical.
Delivered at Place Unloaded (DPU):
DPU means that the risk has been transferred to the buyer once goods have been unloaded from the transport and brought to an agreed-upon destination. But again, the customs clearance duties on import are the responsibility of the buyer.
This rule requires the seller to unload the goods at the destination, so any seller should ensure they have the facilities to unload the goods.
If the parties don't want the seller to bear that risk, the above DAP rule should be used.
Delivered Duty Paid (DDP):
DDP means that the goods are considered to be delivered once the goods have been cleared by customs, delivered to the right location and are ready for unloading. The seller is responsible for bringing the goods to the destination and bears all risk and charges.
As a result, this places the maximum responsibility on the seller.
Incoterms for Sea Freight
While there are Incoterms that apply more generally, there are also some Incoterms that relate specifically to sea freight:
Free on Board (FOB):
FOB means that the goods are delivered to the buyer via a vessel that has been chosen by the buyer. After the goods are on the ship, the buyer bears all costs and responsibility. These is extremely common on Asian exports, with the exporter taking responsibility for getting the cargo to the vessel the buyer has booked.
Cost and Freight (CFR):
CFR means that the goods are delivered to the buyer on board the ship. However, unlike FOB, it's the responsibility of the selling part to pay the freight costs.
CFR however holds no obligation on the seller to buy purchase insurance. As a result, the buyer should purchase cover themselves.
Cost, Insurance and Freight (CIF):
CIF is very similar to CFR. It means that the goods are delivered to the buyer on board the ship, but again its the responsibility of the seller to pay for the freight charges.
Where it differs from CFR is that with CIF the seller is also responsible for insuring the cargo.
Free Alongside Ship (FAS):
FAS means that goods have been delivered to the buyer when they are left next to the ship. As a result, the risk of damages transfers to the buyer when these goods have been placed next to the ship.
Which incoterms are best suited to your business?
Deciding the best incoterms for you depends on a range of factors. Below we have highlighted the factors you should consider:
- Balancing responsibility with control
- The incoterms have a direct impact on your responsibilities and the control you have over logistics. How much of these two factors you want is a key part of the incoterm decision.
- Resource available
- How many staff you have in the supply chain department of your business will influence your incoterms. You may simply not have enough resource or budget to use incoterms with wide-ranging responsibilities.
- Cashflow
- The cashflow of the business can impact incoterms, are more responsibility will mean picking up costs at different stages of the supply chain.
- Service levels
- You may be a company which specialises in high quality service. Using incoterms to accrue full responsibility for shipping could be part of that offering.
- Customs & regulatory requirements
- The seller may not be able to act as the importer into your nation, or vise versa, meaning you are unable to use certain incoterms.
- Relationship with logistics providers
- You may have a particularly good relationship with a freight forwarder, and favour using incoterms which hand them more responsibility as they can be trusted.
- Product type
- The type of products you're shipping, such as perishables or high value goods, may dictate that you take increased responsibility over their logistics.
These are just some of the factors which will influence what incoterms to use. Ultimately, it's a business decision which only you can make. Freight forwarders, like WTA, can advise but cannot absolutely suggest which one is best suited to your business.
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