International trade is a complicated topic. When two foreign parties are involved in a transaction, figuring out how expenses like shipping, handling, insurance, and other variables are split can be difficult. Luckily, for those who work in the logistics industry, trade terms called “incoterms” have been created to help clear up confusion between the parties involved in the shipment.
What Are Incoterms?
Incoterms clarify who is responsible for the goods at each stage in the shipping process. International shipments can be expensive. Paying for the transit of the goods alone can be overwhelmingly costly. Add in variable such as insurance and liability and costs can seem near ridiculous. Incoterms are listed on a Bill Of Lading to state who is responsible for paying for certain costs associated with each phase of the shipping process.
Unfortunately, many new shippers are taken advantage of by more experienced businesses who sneakily list incoterms which favor themselves. Educating yourself on the topic can help you to make more informed, cost-effective and risk-adverse decisions for your business.
Types of Incoterms
There are a total of 11 different types of incoterms – each of which state which phase of the shipping process the buyer or seller is responsible for paying. On each side of the incoterm spectrum there is EXW (ExWorks), in which the buyer is responsible for paying the entirety of the shipping, and DDP (Delivery Duty Paid), in which the seller is responsible for paying the entirety of the shipping process. Here are all incoterms listen in order from buyer responsibility to seller responsibility (we will cover the specifics of each later)
- EXW (ExWorks)
- FCA (Free Carrier)
- FAS (Free Alongside Ship)
- FOB (Free on Board)
- CFR (Cost and Freight)
- CIF (Cost, Insurance, and Freight)
- DAT (Delivery at Terminal)
- CPT (Carriage Paid To)
- DAP (Delivery at Place)
- CIP (Carriage and Insurance Paid to)
- DDP (Delivery Duty Paid)
Starting with EXW (which lists the buyer as the one responsible for all payments), this list of incoterms gradually introduces the seller’s responsibility to pay for certain pieces of the shipping process. Thus, under DDP terms, the seller assumes responsibility to pay for all charges.
Which Incoterm is Right for Me?
Assuming that you have some leverage in selecting the incoterm trade agreements for your shipments, there are a few things you should be aware of. Getting the lowest cost isn’t always the ideal situation with incoterms. After all, the less you pay, the less control you have over the vendors and methods selected for shipping the goods. Sacrificing this control often means sacrificing quality.
Incoterms for Quality Assurance
If it’s the other party’s responsibility to pay for loading, trucking, drayage, etc., they may pay for the lowest cost, slowest transit vendors to keep their own expenses low at the risk of damaging your goods. You walk away thinking you got a good deal on the price of the trade agreements right as your team opens a delayed container of damaged goods.
Ok. So maybe it won’t be that bad, but it certainly could be. A sacrifice of cost means a sacrifice over decisions regarding how your freight moves (or doesn’t.) While it will be a bit more pricey, here are a list of a few incoterms that are great to assure the quality of your goods and shipment:
EXW (ExWorks) Incoterm
ExWorks is by far the most expensive trade agreement, but it gives you and your team 100% control over vendor selection and shipping methods.
FOB (Free On Board) Incoterm
Free On Board incoterms are a great selection for companies that want to ensure a great deal of control over their shipment without worrying too much about the costs associated with vendor activities conducted in the foreign country. Under FOB incoterms, the seller is responsible to pay for loading goods on the truck, export customs declaration, bringing the goods to the foreign port, and unloading/loading the goods onto the vessel for export. This means that you are only left to take care of the goods as they are en-route to the destination port and to your door.
Incoterms for Low Cost
We warned you before of the potential hazard caused by chasing low prices with incoterms, but we understand the concern over transportation budgets. Incoterms can get pricey, especially for big product moves, and this calls for cutting costs in as many areas as possible. If you are looking for the lowest cost incoterms, here are a couple recommendations:
DDP (Delivery Duty Paid)
Delivery Duty Paid incoterms make for a VERY cheap trade agreement if you’re a buyer in the transaction. How cheap? You won’t pay a penny. Everything from loading onto the truck in the foreign country to the import customs clearance and import taxes is covered by the seller in the transaction. For U.S. based importers looking to cut costs as much as possible, this is an absolute ideal trade agreement. However, it’s hard to find a seller that’s willing to pay for the entire transit. You may be better off agreeing on something like CPT terms.
CPT (Carriage Paid To)
Under CPT incoterm agreements, the seller is responsible to pay for everything up until the carriage to the place of destination. You as the buyer are only responsible to pay for the insurance fee, import customs clearance, and import taxes. This gives you a cost break without making the other party pay for the entire transaction. It looks a little more reasonable on paper to the seller than DDP terms without breaking the bank for your team.
We’ve written past articles on cost management for incoterms if you are interested in learning more on the topic. Unfortunately, with incoterms, chasing the lowest cost doesn’t always mean an ideal situation. Minimizing costs may mean increased risk – if your foreign party is responsible for paying for everything, they will most likely book all your goods with the lowest cost (and lowest quality) vendors along the way. On the other hand, certain incoterms give you as the buyer a lot of leverage over your goods, such as EXW and FOB terms.
Make sure to talk with your carrier about which incoterms are best for your business. No two businesses are the same, and depending on your international shipping situation, suppliers, transportation budget, and risk tolerance, there is probably a better incoterm agreement situation out there for your company. If you have any questions on the topic, make sure to reach out to one of our team members to ask us. We are very experienced on the topic and are happy to help anyone!