Incoterms, or trade terms, are an essential element of international sale contracts set forth by the International Chamber of Commerce (ICC). They explain the division of risks and costs concerning shipping and import and export clearance between the buyer and seller. While Incoterms may seem like a dry topic, when changes arise in Incoterms, experienced compliance managers, customs brokers, export managers, and the like take notice.
At a recent conference, people experienced in international sales of goods discussed changes to Incoterms 2020 throughout the meeting rooms. Everyone was considering scenarios where different terms could apply dependent upon the conditions of their contracts. Due to their knowledge of the subject matter, discussions about the pros and cons of the new terms made for exciting discussions.
When you work within the terms daily, applying them to your business transactions is an easy task. For the remaining international business population, it can be challenging to select the terms best for your business:
• Should you buy under “F” terms and sell under “C” terms or vice versa?
• When should a “D” or “E” term be used?
• What level of risk and responsibility works best for your company, and do you fully understand the implications of selecting the wrong term?
Misconceptions are prevalent, and many companies use incorrect terms regularly. Fortunately, for many companies, there are no implications; however, that is not always the situation. Common misconceptions may create taking on more risk and or costs than anticipated.
FOB, DDP, and What Does That “I” in CIF/CIP Really Mean?
The Proper Use of FOB
Over the years, we have seen the term FOB take on various interpretations. Free on Board is a term only to be used when goods will travel by water. The seller bears all costs to the point where the seller loads the goods on board the vessel. Once the goods are on board, the seller’s risk transfers to the buyer. FOB is a term we would expect to see for a vessel charter; however, companies misuse the term almost daily for shipments that do not travel near any water. For example, a truck move from Houston, Texas to Vancouver, British Colombia, cannot be FOB even if it crosses over a few bridges along the way. On the other hand, if a company loads that same truck onto a vessel in Houston and sails to Vancouver, then FOB is the correct term.
What Does DDP Include?
If you sell on DDP (Delivered Duty Paid) terms, you would think that includes everything relating to the delivery; however, DDP terms do not include unloading at the final destination. In 2020, the ICC added the term DPU (Delivered at Place Unloaded), which means goods should be delivered to the destination and unloaded from the arriving method of conveyance. In the past, the ICC did not specifically address unloading, which caused some confusion.
Now, the question is whether you need to include both DDP and DPU terms, or will a DDP shipment include unloading? Only one term is allowed per move; however, as long as the shipper and buyer agree, you can get a bit creative. If the buyer wants the goods cleared by customs and then unloaded, the contract should state, “DDP unloaded at (insert address here) Incoterms 2020.”
The “I” in CIF & CIP Means Insurance, but What Type do You Need?
Until 2020, CIF (Cost, Insurance, Freight), and CIP (Carriage and Insurance Paid) only required Institute Cargo Class C or FPA (Free of Particular Average) coverage. These terms only needed catastrophic coverage; a plane crashes, a truck gets into an accident, a vessel sinks, or for the parties to declare General Average terms, where all stakeholders proportionally share any losses. For coverage to kick in, there must be damage to cargo as a result of an accident or mishap to the mode of conveyance. The ICC decided that CIP should be modified to enhance the insurance coverage due to the value of the cargo that generally moves under this term.
Under the recent changes, the seller must add Institute Cargo Class A or All Risk insurance for CIP terms, which offers much broader coverage for the buyer and typically covers loss or damage during transit. CIF terms have not changed, and ICC-C or FPA is still the minimum coverage required under this term. However, to better protect you and your client, you should use ICC-A or All Risk coverage, although these are the only two terms that require insurance to be in place. You should include ICC-A or All Risk coverage to any transaction where you could have liability.
Weeding through the Incoterms when conducting international business can be confusing, but using the wrong shipping terms can subject your company to needless liability. At Aries Worldwide Logistics, we can help your company choose the best terms for your business and help educate your export and compliance teams.
If you are interested in learning more about the changes in terms or how to properly execute each term, email email@example.com.