Incoterms (International Commercial Terms)

Executive Summary

International trade is the backbone of the global economy, with millions of goods exchanged daily across borders. A critical component of this complex process is the set of predefined commercial terms known as Incoterms, which stand for International Commercial Terms. These terms are published by the International Chamber of Commerce (ICC) and provide a common framework to determine the responsibilities of buyers and sellers in international transactions. This white-paper explores the history, structure, and application of Incoterms, highlighting their significance in global trade.

Introduction

Recently, I was assisting an international company set up a plan whereby they could assist a timber grower on one continent sell and ship its timber to a buyer on another continent.  As one of my staff members was reading my outline, he asked me “What is an Incoterm”.  It was the end of the day, so I simply replied, “It just a term in the agreement dealing with shipping goods.”  I felt bad for giving such an incomplete answer, so I decided to write this white-paper.

Incoterms are a set of internationally recognized rules that define the responsibilities of sellers and buyers for the delivery of goods under sales contracts. First introduced in 1936, Incoterms are designed to reduce uncertainties arising from different interpretations of rules in different countries. By providing a standard, they facilitate smoother international trade transactions and minimize legal disputes.

History and Evolution of Incoterms

The first Incoterms were published in 1936 by the International Chamber of Commerce to address the lack of uniformity in international trade practices. Over the years, the ICC has revised Incoterms periodically to reflect changes in trade practices and logistics. The latest version, Incoterms 2020, includes updates to address the evolving landscape of global trade.

Overview of Incoterms 2020

Incoterms 2020 consists of 11 terms, which are divided into two categories based on the mode of transport:

• Multimodal Transport Terms: Applicable to any mode of transport, including EXW, FCA, CPT, CIP, DAP, DPU, and DDP.
• Maritime Transport Terms: Applicable only to sea and inland waterway transport, including FAS, FOB, CFR, and CIF.

Categories of Incoterms

Multimodal Transport Terms

EXW (Ex Works): The seller makes the goods available at their premises. The buyer is responsible for all costs and risks involved in transporting the goods to their destination.

FCA (Free Carrier): The seller delivers the goods to a carrier or another person nominated by the buyer at the seller’s premises or another named place.

CPT (Carriage Paid To): The seller pays for the carriage of the goods to the named place of destination. The risk passes to the buyer when the goods are handed over to the carrier.

CIP (Carriage and Insurance Paid To): The seller pays for the carriage and insurance to the named place of destination. The risk passes to the buyer upon delivery to the carrier.

DAP (Delivered At Place): The seller delivers when the goods are placed at the disposal of the buyer on the arriving means of transport ready for unloading at the named place of destination.

DPU (Delivered at Place Unloaded): The seller delivers and unloads the goods at the named place of destination.

DDP (Delivered Duty Paid): The seller delivers the goods to the buyer, cleared for import and all applicable duties paid at the named place of destination.

Maritime Transport Terms

FAS (Free Alongside Ship): The seller delivers when the goods are placed alongside the vessel at the named port of shipment.

FOB (Free On Board): The seller delivers the goods on board the vessel nominated by the buyer at the named port of shipment.

CFR (Cost and Freight): The seller pays for the cost and freight to bring the goods to the port of destination. The risk transfers to the buyer once the goods are loaded on board the vessel.CIF (Cost, Insurance, and Freight): The seller pays for the cost, insurance, and freight to bring the goods to the port of destination. The risk transfers to the buyer once the goods are loaded on board the vessel.

The Role of Incoterms in Risk Management

Incoterms play a crucial role in risk management by clearly defining when the risk of loss or damage to the goods transfers from the seller to the buyer. This clarity helps in mitigating disputes and ensuring smoother transactions. For instance, under CIF terms, the seller’s responsibility includes obtaining insurance, thereby providing additional security to the buyer.

Legal Implications and Compliance

Compliance with Incoterms is essential for legal certainty in international trade. Incorrect use of Incoterms can lead to legal disputes, increased costs, and delays. Therefore, it is crucial for businesses to understand the legal implications of each term and ensure that their contracts clearly specify the chosen Incoterm.

Practical Applications and Case Studies

Case Study 1: Electronics Manufacturer

An electronics manufacturer in Japan sells goods to a retailer in Germany under CIF terms. The manufacturer covers the cost, insurance, and freight to the port of Hamburg. Once the goods are loaded on the vessel, the risk transfers to the retailer. This arrangement ensures that the retailer is protected against potential losses during sea transport.

Case Study 2: Agricultural Exporter

An agricultural exporter in Brazil sells coffee beans to a buyer in the United States under FOB terms. The exporter is responsible for loading the beans onto the vessel at the port of Santos. The buyer bears all costs and risks from that point onwards. This clear division of responsibilities helps in efficient risk management and cost allocation.

Future Trends in International Trade

As global trade continues to evolve, Incoterms are expected to adapt to new challenges and opportunities. Emerging technologies, such as blockchain and digital trade platforms, are likely to influence the future of Incoterms by enhancing transparency and efficiency in international transactions. Additionally, environmental considerations and sustainability practices may lead to the introduction of new terms or modifications to existing ones.

Conclusion

Incoterms are a fundamental aspect of international trade, providing a standardized framework that helps reduce uncertainty and facilitate smooth transactions. Understanding and correctly applying Incoterms can significantly enhance risk management, legal compliance, and overall efficiency in global trade operations. As the landscape of international commerce continues to evolve, staying informed about the latest developments in Incoterms will be crucial for businesses to remain competitive and successful.

Christopher Callaghan is an attorney practicing in both Domestic and International Business Law.  If your business needs an attorney, please get in touch with Christopher Callaghan today at (251) 479-1477 to schedule your consultation.