Incoterms are universally recognised rules that guide buyers and sellers when formulating and fulfilling a contract for the shipment of goods. First introduced in 1936 by the International Chamber of Commerce (ICC), Incoterms 2020 marks the first update since 2010 to keep pace with the continually evolving global trading landscape.
The latest version of the rules came into effect on 1st January 2020 and consists of eleven separate Incoterms, with some specific revisions that are worth addressing.
Incoterms 2020 formally defines delivery as the point in the transaction where ‘the risk of loss or damage to the goods passes from the seller to the buyer’, whereas previously the term had been explained more informally. Incoterms 2020 rules have also been updated to make security more prevalent by listing import and export security requirements and identifying whether the buyer or seller is responsible for meeting each of those requirements.
- EXW – Ex Works
- FCA – Free Carrier
- CPT – Carriage Paid to
- CIP – Carriage and Insurance Paid to
- DPU – Delivered at Place Unloaded
- DAP – Delivered at Place
- DDP – Delivered Duty Paid
- FAS – Free Alongside Ship
- FOB – Free on Board
- CFR – Cost and Freight
- CIF – Cost, Insurance & Freight
What are the most important changes on Incoterms 2020?
The most significant change relates to the term FCA (Free Carrier) which now allows the buyer to instruct the carrier to issue a Bill of Lading with an onboard notation to the seller in order to satisfy the terms of a Letter of Credit. Previously, many exporters preferred to use FOB (Free on Board) in order to arrange payment under a Letter of Credit, despite FCA being more suitable for shipment of containerised goods due to the extra delivery cost differential between FCA and FOB
The most obvious change is the introduction of DPU (Delivered at Place Unloaded) to replace DAT (Delivered at Terminal). This was done because the word ‘Terminal’ previously caused confusion and DPU broadly covers all delivery options.
Under the revised term CIP (Carriage and Insurance Paid), a higher level of insurance must be purchased by the seller under Institute Cargo Clause A, amounting to 110 percent of the invoice value which is more appropriate for manufactured goods. For CIF (Cost Insurance & Freight) which is intended for commodity shipments, the insurance requirement has not changed and is specified under Institute Cargo Clause C
Additionally, FCA (Free Carrier), DAP (Delivered at Place), DPU (Delivered at Place Unloaded) and DDP (Delivered Duty Paid) now take account of buyers and sellers arranging their own transport rather than using a third party.
Expense allocation between buyer and seller are now listed more precisely to help avoid confusion. In the 2010 Incoterms, costs sometimes became a big issue when carriers changed their pricing structure by adding back-charges and sellers consequently faced additional terminal handling expenses.
What is Incoterms 2020?
The updated definitions are divided into two separate groups because Incoterms identify the responsibilities of the buyer and seller at different points during shipment and some Incoterms are better suited to certain modes of transport than others.
Each of the eleven Incoterms is based on a mode of transport, with seven suitable for any mode of transport and four applicable to sea and inland waterway transport.
INCOTERMS FOR ANY MODE OF TRANSPORT
EXW – Ex Works
Under the EXW term, the seller is responsible for making the goods available at its own premises or another named place (factory, office or warehouse). Ownership then passes to the buyer who is then responsible for all costs and risks starting from the time that the products are collected.
EXW is most favourable to the seller, who has no obligation to load the goods, cover freight costs once they have left the premises or clear the goods for export. This term can cause complications for the buyer if goods are intended for export.
FCA – Free Carrier
With FCA, the seller is responsible for delivering the good to the buyer’s nominated premises, loading the goods onto the buyer’s transportation and organising shipping including export clearance and meeting security requirements. Risk is transferred once the goods are loaded onto the buyer’s transportation.
The buyer pays the cost of freight, bill of lading fees, insurance, unloading and local transportation costs to the final place of destination. Any damage to the goods when on board the vessel is the responsibility of the buyer.
FCA is the term that has been most significantly changed under the Incoterms 2020 rules. Previously, the use of a transport intermediary meant the seller was unable to obtain a bill of lading with onboard notation because he did not present the goods directly to the international shipper. Without the BL, the transacting bank would not authorise payment to the seller. Under the new Incoterms 2020 FCA resolves this problem by allows both parties to specify in the sale contract that the buyer should instruct the carrier to issue a bill of lading with on-board notation to the seller.
CPT – Carriage Paid To
CPT goes beyond FCA by specifying that the seller bears the costs for transporting the goods to the buyer’s place of destination. The seller clears the goods for export and delivers them to the carrier or another person stipulated by the seller at a named place of shipment, at which point risk transfers to the buyer. The seller is responsible for the transportation costs associated with delivering goods to the named place of destination but is not responsible for procuring insurance.
Under CPT, the seller is not responsible for procuring insurance. If the buyer requires the seller to obtain insurance, the Incoterm CIP should be considered instead.
CIP – Carriage and Insurance Paid to
CIP is broadly similar to CPT, with the exception that the seller is required to pay for insurance for the goods in transit as well as for the transportation itself.
The seller clears the goods for export and delivers them to the carrier or another person stipulated by the seller at a named place of shipment, at which point risk transfers to the buyer. The seller is responsible for the transportation costs associated with delivering goods to the named place of destination.
In one of the most significant changes under Incoterms 2020, CIP requires the seller to purchase a higher level of insurance that is more appropriate for containerised goods: 110% of the contract value under Institute Cargo Clauses (A) of the Institute of London Underwriters. Previously the minimum insurance was applicable under Institute Cargo Clauses (C).
DPU – Delivered at Place Unloaded
Previously known as Delivered at Terminal (DAT), this Incoterm has been renamed DPU because the buyer or seller may want the delivery of goods to a location other than the terminal. This term is often used for consolidated containers with multiple consignees. It is the only term that tasks the seller with unloading the goods.
The seller covers all the costs of transportation (export fees, carriage, unloading from carrier at destination port and destination port charges) and assumes all risks until arrival at the destination port or terminal. The buyer is responsible for all costs and risks after unloading, including import duties, taxes, customs clearance and local transportation to the final named place of destination. If the seller is not able to organize unloading, shipping under DAP terms should be considered instead.
DAP – Delivered At Place
The seller delivers the goods to a named place of destination but is not responsible for unloading. His responsibilities include packing, export clearance, carriage expenses and any terminal costs up to the agreed destination port.
DAP means the buyer is responsible for all costs, duties and taxes associated with unloading the goods and clearing customs to import the goods into the named country of destination. Risk is transferred to the buyer at the final named place of destination.
DDP – Delivered Duty Paid
DDP means the seller bears all risks and costs associated with delivering the goods to the named place of destination ready for unloading and cleared for import.
The seller is responsible for clearing the goods through customs in the buyer’s country, including payment of both duties and taxes, and obtaining the necessary authorizations and registrations from the authorities in that country. However, the seller is not responsible for unloading.
This term places the maximum obligations on the seller and minimum obligations on the buyer. No risk or responsibility is transferred to the buyer until delivery of the goods at the final named place of destination.
Unless the seller has a very clear understanding of the rules and regulations in the buyer’s country, DDP terms can be a very big risk both in terms of delays and in unforeseen extra costs, and should be used with caution.
What rules apply for sea and inland waterway transport?
The following four rules of international trade are for transportation of goods entirely by sea or inland waterway.
Risk and responsibility for the goods passes from the seller to the buyer when the goods are delivered on board the ship (apart from FAS). As the condition of the goods must be verified at this point, these terms are only suitable for non-containerised goods, such as commodities.
Note: in previous editions of Incoterms, the risk passed between the seller and the buyer at the point where the goods crossed the ship’s rail.
FAS – Free Alongside Ship
The seller delivers the goods alongside the buyer’s vessel at the named port of shipment. This means that the buyer bears all costs and risks of loss or damage from that moment. The FAS term requires the seller to clear the goods for export. (Under previous Incoterms, the buyer arranged export clearance).
FOB – Free on Board
Under FOB terms the seller bears all costs and risks up to the point that the goods are loaded on board a vessel designated by the buyer. The seller’s responsibility includes arranging export clearance, while the buyer pays the cost of marine freight, bill of lading fees, insurance, unloading and local transportation costs from the port of arrival to the final destination. Any damage to the goods when on board the vessel is the responsibility of the buyer.
Since Incoterm FCA was introduced in 1980, FOB should be used only for non-containerized seafreight and inland waterway transport. However, FOB continues to be the most commonly – and incorrectly – used term for all modes of transport including containerised shipments, despite the contractual risk that can result (which include the difficulty of checking goods if they are enclosed in a container).
CFR – Cost and Freight
CFR incurs greater risk and responsibility for the seller who pays for the carriage of the goods up to the named port of destination. Risk transfers to the buyer when the goods have been loaded on board the ship in the country of export. The shipper pays for export clearance and freight costs for carriage to the named port and is responsible for any damage to the goods on board the ship until the port of final destination.
The buyer pays for local delivery from the port to the final destination and is responsible for purchasing insurance. If the buyer requires the seller to obtain insurance, the Incoterm CIF should be considered.
CFR should only be used for non-containerized seafreight and inland waterway transport; for all other modes of transport – and for containerised goods – it should be replaced with CPT, as specified in a key change in Incoterms 2020.
CIF – Cost, Insurance & Freight
The seller clears the goods for export and delivers them when they are on board the vessel at the port of shipment. The seller bears the cost of freight and insurance to the named port of destination and is responsible for any damage to the goods on board the ship. The seller is required to purchase the minimum level of insurance under Clause C of the Institute Cargo Clauses. (This requirement is unchanged from Incoterms 2010.)
At the port of arrival. The seller must turn over three key documents – invoice, insurance policy and bill of lading – which represent the cost, insurance and freight of CIF. This term is similar to CFR except that the seller is required to obtain insurance for the goods while in transit.
Note: While incoterms help to reduce the risks involved in the delivery of goods between seller and buyer, they only form part of the whole export contract. Price, method of payment, transfer of ownership, breach of contract and product liability are all issues that need to be addressed in the contract of sale. Also, Incoterms cannot override any mandatory laws.