What Is An Incoterm?
Title transfers and International Commerce Terms (incoterms) are essential parts of drawing up sales agreements for international freight shipments. A title transfer relates to the change on possession of goods from the seller to the buyer. The title of the ownership will transfer from the seller to the buyer according to the terms agreed in the contract. Incoterms are a set of international commercial terms used in international freight shipment contracts. The terms define the responsibility of the buyer and the seller relating to the movement and shipping of goods. However, incoterms don't address the transfer of ownership of goods.
What are the types of incoterms?
Incoterms are published by the International Chamber of Commerce (ICC). They're important because they streamline interaction between traders by reducing any misunderstandings about shipping, insurance and tariffs. This also means they significantly reduce trade disputes and litigation. There are many different types of incoterms, and it's important to choose the right one for your shipment.
EXW (Ex Works): Ex Works places most of the responsibility onto the buyer. The seller ensures the goods are at the seller's premises or another named location where the buyer loads and clears the goods for export.
Free Carrier (FCA): This is similar to Ex Works. The seller delivers goods either to the carrier, a nominated person at the seller's premises, or another named location. The point at which any risks are passed onto the buyer must be clearly stated.
Free Alongside Ship (FAS), Free on Board (FOB), Cost and Freight (CFR) and Cost, Insurance and Freight (CIF): These are terms relating to waterway shipments.
- FAS is when the seller delivers goods alongside a vessel nominated by the buyer. The responsibility lies with the buyer once the goods are alongside the vessel.
- FOB is when the seller delivers goods on-board a vessel nominated by the buyer. The responsibility lies with the buyer once the goods are on-board the vessel.
- CFR is similar to FOB. The difference is that the seller must pay for the costs and freight to deliver goods to their destination.
- CIF is similar to CFR. The difference is that the seller arranges insurance cover against the buyer's risk of loss or damage.
Delivered at Terminal (DAT), Delivered at Place (DAP) and Delivered Duty Paid (DDP): These terms relate to the destination of goods.
- DAT is when the seller delivers the goods to a named place of destination, once the goods have been unloaded. The seller has full responsibility for the goods up until the named place of destination.
- DAP is when the seller delivers the goods ready for unloading at the named place of destination. The seller has full responsibility for the goods up to the named place of destination.
- DDP is when the seller is responsible for all costs and risks relating to the delivery of goods to the buyer's named place of destination. This includes clearing goods for export and import, paying any duty and carrying out customs formalities.
Which incoterm should you choose?
Free Carrier (FCA) and Delivered at Place (DAP) incoterms have many advantages. They can be used for both domestic and international shipments and for any mode of transport. The seller is responsible for export customs and the buyer is responsible for import customs. You should consider using FCA and DAP incoterms whenever possible. In contrast, using Ex Works (EXW) places full responsibility onto the buyer, which poses the risk of the buyer not being able to carry out all of these responsibilities.
Before you decide on which incoterm to use, you should carry out a cost/benefit analysis to determine which type is best suited to your transaction conditions. There might be some tax or other financial benefits available for the transaction, based on the terms of the title transfer options. You should also be mindful of any legal issues that could cause problems with a shipment reaching its destination. For example, there might be country-specific restrictions on your goods if they're prohibited. It's incredibly important to ensure you have all the necessary documentation, including licences or permits.
Why are incoterms important?
Incoterms are so valuable because of the language barriers associated with international trade. As incoterms provide the same definition of specific terms, the risk of misunderstanding due to language inconsistencies is substantially reduced. This means there's less chance of disputes between traders. Shipments can face problems without the correct incoterm so it's really important to think carefully about which one is appropriate. Failure to understand incoterm definitions leads to problems throughout the supply chain. For example, logistics costs could increase, the terms may not match the requirements of the buyer or seller or the buyer or seller may not be able to comply with the incoterm.