When starting out in the import/export industry, you may have heard of the terms FCA, FOB, EXW and scratched your head wondering what these abbreviations are. These are called Incoterms - a set of standard rules used by shippers, importers, and freight companies worldwide.

Knowing what Incoterms are and what they mean can help you cut better deals with your trading partners. Using the right Incoterms can also help reduce the risks you entail when shipping internationally.  

Incoterms will dictate the rules with regards to the following scenarios:

• Who is responsible for arranging transportation from the seller’s factory to the buyer’s warehouse
• Which party is liable for damage that happens to the goods while in transit
• Who pays for export and import duties and taxes
  

For buyers especially, these are all important things to consider when negotiating the price and contract of goods. As an importer you don’t want to suddenly have to pay for duties and services that you just assumed were already part of the contract price. This is why a basic knowledge of incoterms is essential.

What are Incoterms

Incoterms are a set of rules defined by the International Chamber of Commerce (ICC) which outline the responsibilities in shipment between a buyer and a seller. Each incoterm is known by a three letter abbreviation. These rules dictate how the importer and supplier split the costs, responsibilities and risks when transporting goods. International sales contracts between buyers and sellers usually indicate the incoterm that the transaction will operate under,

The ICC periodically updates the set of Incoterms with the last update happening on January 1, 2020. Incoterms 2020 now has eleven defined Incoterms. Knowing each incoterm is beneficial when making any arrangements in international shipping.

The eleven Incoterms

EXW - Ex Works

The seller is only obligated to make the goods available at the seller’s location. Once the goods are at the set location, the seller has no longer any responsibility to the buyer. Arranging transportation, loading the goods to transportation, paying all costs and securing all permits from that point onward is the buyer’s responsibility.

EXW is the most seller friendly incoterm. For buyers, EXW is the incoterm that has the most cost and risk associated. It is very inconvenient for buyers especially if the shipment is done internationally. The need for the buyer to arrange for loading the goods from the sellers location is itself fraught with complications. For example, if the goods need to be loaded using a forklift, the buyer will have to coordinate the rent of the forklift, as well as to get clearance from the place where goods are made available to use that forklift.

FCA - Free Carrier

The buyer of the goods will arrange for transportation to pick up the cargo from the seller at a predetermined location. This location could be the seller’s factory or a freight forwarder chosen by the buyer. Settling this predetermined location is required when using FCA. Unlike in EXW, in FCA the seller is obligated to load the goods into the transport provided by the buyer, or in the case where buyer requested delivery to a freight forwarder, the seller is responsible for delivering the goods to the freight forwarder. It is at this moment - loading the goods to the buyer’s transport or unloading the goods at the buyer’s chosen freight forwarder - that the risk transfers from the seller to the buyer.

In FCA, the buyer is responsible for the import permits and processes while the seller is responsible for all export permits and processes.

FAS - Free Alongside Ship

In FAS, the seller is responsible for delivering and unloading the goods up to the port of departure, beside the shipping vessel contracted by the buyer. Once the goods are unloaded at the point of departure, then the risk transfers between the seller and buyer.
FAS dates back to the age of sail when goods are dropped off beside (alongside) the vessels which will then make the oceanic journey. It is no longer popular today with the current system of carriers, containerization and freight forwarders.

One type of shipment where FAS is still used is when transporting large pieces of equipment and machinery which cannot be containerized and has to be loaded directly into the vessel.

FOB - Free On Board

FOB is the most commonly used incoterm in international shipping today. The big difference with FAS is that instead of just placing the cargo alongside the ship, the seller is responsible up until the moment that the cargo is loaded onto the ship contracted by the buyer.

Even though it is the seller’s responsibility to get the cargo loaded onto the vessel, as it is the buyer who contracted the vessel it is the buyer’s responsibility to secure and transmit the necessary documents and information for the seller to load the cargo onto the vessel.

What is the Difference Between FOB Shipping Point and FOB Destination?

FOB being the most popular incoterm usually comes with some prequalifications - FOB Shipping point and FOB destination. These are usually negotiated by the buyer and seller to further define the risks involved.

In FOB shipping point, the ownership of the goods  is transferred from the seller to the buyer at the moment the goods leave the seller’s port of export. Any damage or incidents that happen to the cargo while in transit is the responsibility of the buyer.

In FOB destination, the ownership of the goods is transferred only once the goods are at the buyer’s destination. Any incidents that happen to the goods from the seller’s location all the way to the buyer’s destination is the responsibility of the seller.

CPT - Carriage Paid To

In CPT, the seller is responsible for delivering the goods up to a destination chosen by the buyer. The cost of transportation is usually included in contracts made under the CPT incoterm. Once the goods arrive at the buyer’s location, the risk then transfers over to the buyer - including damages that can occur once the items are unloaded.

CPT is very popular for shipping cargo via road as the truck that leaves the seller’s premises is also the truck that arrives to deliver at the buyer’s delivery point. For ocean shipments, CPT is a trickier arrangement. In a CPT arrangement, it is the seller who will contract for a vessel at a date and arrangement that is most convenient for the seller but not necessarily good for the buyer.

In a CPT arrangement, the buyer is responsible for purchasing cargo insurance. If the buyer wants to require the seller to purchase insurance then the CIP incoterm should be used instead.

CFR - Cost and Freight

Next to FOB, CFR is one of the more popular Incoterms used in international shipping. Like in FOB, the seller is responsible for loading the goods onto the vessel. The big difference between CFR and FOB is that the seller is also responsible for paying for the transportation of the goods up to the port of import of the buyer. This normally appears on the Bill of Lading as “Freight prepaid”.

What CFR does not specify is who is the responsible party for unloading the goods at the port of import. This is something that the buyer and seller have to negotiate separately on their own terms.

In a CFT arrangement, the buyer is responsible for purchasing cargo insurance. If the buyer wants to require the seller to purchase insurance then the CIF incoterm should be used.

CIF - Cost, Insurance and Freight

CIF is similar to CFR with one major difference - the seller is also responsible for purchasing cargo insurance for the transit of the goods. Responsibility for the cargo still transfers to the buyer once the cargo is loaded onto the vessel but the seller must purchase insurance that provides sufficient coverage for the buyer.

CIP - Carriage and Insurance Paid To

CIP is similar to CPT with one major difference - the seller purchases cargo insurance for the transit of the cargo.

DAP - Delivered at Place

DAP makes the seller responsible for everything needed to deliver the goods to the seller’s premises at which point the buyer is responsible for unloading. The buyer is also responsible for any import duties, taxes and paperwork needed by the seller to deliver the goods. Any damage or incidents that happen to the cargo before it arrives at the buyer’s premise is the responsibility of the seller.

Since the seller is responsible for booking any air or ocean transportation, it is usually the seller who also appears on the Bill of Lading for shipments using the DAP incoterm.

DPU - Delivered at Place, Unloaded

In a DPU setup, the only responsibility of the buyer is to settle any import duties and clearances that are needed. The seller will bear all the costs, risks and responsibilities until the cargo is unloaded at the buyer’s destination.
This is a new Incoterm introduced in 2020 and as such there hasn’t been much time to see how importers and exporters utilize DPU. Like CPT, this is something that is more feasible for land based transportation. For heavier cargo or cargo that utilizes international ocean or air freight, this may be more challenging as the seller will now be responsible for processing the needed paperwork needed to unload and clear the cargo at the foreign destination.

Similar to EXW, this also presents logistical risks for the seller as it may not be trivial to arrange for manpower and equipment to unload the cargo at the buyer’s chosen destination.

DDP - Delivered, Duty Paid

DDP places all responsibilities to the seller. This is the incoterm that is most friendly to the buyer as the buyer does not have any responsibility until the cargo is unloaded at the buyer’s premises.

One thing to note is that in DDP, the responsibility for settling any import duties is placed upon the seller. This may not be possible in some jurisdictions if the seller is not a legal entity in the destination country. Even if the seller is able to settle the import duties, paying for VAT/GST may not be possible for the seller. This is something that buyers who transact using DDP must take into consideration as it may end up causing unexpected delays and troubles in the shipment of the cargo.

Takeaways

Now that you have familiarized yourself with the Incoterms, you can now be more informed when undergoing transactions with foreign parties. Whether you are the buyer or seller in a particular transaction, knowing the risks and benefits of each specific incoterm will help ensure that you are getting the best deal possible without exposing yourself to unnecessary risk.