Incoterms shipping terminology isn’t just fancy jargon. Knowing the rules on global freight can translate to minimized shipping risk and maximized profits.

Expanding your small business globally is a great way to increase profits, but navigating international trade in 2023 can be difficult. Incoterms are a set of internationally recognized rules that define the responsibilities of buyers and sellers in international trade transactions. In this article, we’ll explore how Incoterms can help small business owners control shipping and freight costs and risk factors to better succeed in the global market.

What are Incoterms?

First published in 1936, Incoterms (International Commercial Terms) are a set of standard trade terms widely used in international trade transactions. Formally and currently published by the International Chamber of Commerce (ICC), they are widely recognized and accepted by governments, legal authorities, and practitioners around the world.

As a guide intended to level the international playing field, Incoterms specify the responsibilities of the seller and buyer in the transaction. This includes obligations for the delivery of goods, transfer of risks, and costs related to transportation and insurance.

Key Incoterms Defined

Some of the more commonly used Incoterms include:

EXW (Ex Works): The seller’s only obligation is to make the goods available at their premises.

FOB (Free on Board): The seller is responsible for the delivery of goods to the port of shipment and the buyer is responsible for the cost and risk of loss or damage to the goods from that point onwards.

CIF (Cost, Insurance and Freight): The seller is responsible for the delivery of goods to the port of destination and the cost and risk of loss or damage to the goods during transportation.

CPT (Carriage Paid To): The seller is responsible for the delivery of goods to the named place of destination and the cost of transportation.

DAP (Delivered at Place): The seller is responsible for the delivery of goods to the named place of destination.

Incoterms play a crucial role in international trade by providing a common understanding of the obligations and responsibilities of the parties involved, reducing the risk of misunderstandings and disputes.

Incoterms 2022 vs 2023

Compared to 2020, 2021 or 2022, what’s new in Incoterms for 2023? Essentially, nothing.

The ICC updates and revises the Incoterms guide only once every 10 years, with the last update being in 2020.

Not that the ICC is static in its development for more timely resources, far from it. For instance in 2022 the ICC launched Genesis, a online tool intended to enable exporters to obtain certification of their origin statement on invoice declarations.

As for the update in 2020, several changes were made to the Incoterms, including changes to the rules and responsibilities of the buyer and seller. Also included were updates to reflect developments in transportation and logistics practices, and the introduction of a new Incoterm, DPU (Delivered at Place Unloaded), which provides additional clarity for delivery obligations in multimodal transportation scenarios.

How Do Incoterms Impact the Cost of Shipping?

Incoterms can have a significant impact on the cost of shipping in international trade transactions. The specific Incoterm agreed upon between the buyer and the seller determines the responsibilities and costs associated with the delivery of goods, including transportation, insurance, and customs duties.

Having an intimate knowledge of the terms that relate to your business, and the resources available to negotiate the best possible outcome can have a significant impact on your shipping costs.

For example, if the Incoterm agreed upon is FOB (Free on Board), the seller is responsible for the delivery of goods to the port of shipment, while the buyer is responsible for the cost of transportation, insurance, and customs duties from that point onwards. This means that the buyer will bear the cost of these expenses, which can significantly increase the cost of shipping.

On the other hand, if the Incoterm agreed upon is CIF (Cost, Insurance and Freight), the seller is responsible for the delivery of goods to the port of destination, and the cost and risk of loss or damage to the goods during transportation. In this case, the seller will bear the cost of transportation, insurance, and customs duties, which can reduce the cost of shipping for the buyer.

What are the Most Important Incoterms for Small Business

For North American-based small business,

Depending on your type of industry, the most important Incoterms for smaller North American-based businesses would likely be EXW (Ex Works), FOB (Free on Board), CIF (Cost, Insurance and Freight), and DAP (Delivered at Place). Simply because these Incoterms are the most widely used in international trade.

In terms of controlling shipping and freight costs, it is important to carefully consider the Incoterm agreed upon in each transaction. In general sum-sum negotiations, Incoterms that place more responsibility on the seller will tend to result in lower costs for the buyer, as the seller will bear the costs of transportation, insurance, and customs duties.

For example, if you’re importing goods from a supplier in another country, using an Incoterm like CIF or DAP, which place the responsibility for delivery and transportation costs on the seller, can help to reduce your costs. On the other hand, if you are exporting goods to a customer in another country, using an Incoterm like FOB, which places the responsibility for delivery and transportation costs on the buyer, can help to reduce your costs.

Overall, consulting with a trade expert or an experienced logistics partner to help you determine the best Incoterms for your specific needs to help you control shipping and freight costs

Incoterms Shortfalls and Limitations

As mentioned, Incoterms are a widely used and well-established set of rules for international trade, but like any commercial tool, they are not without limitations. Some of the potential shortfalls or limitations of Incoterms include:

1. Ambiguity: Incoterms are designed to be flexible, but this can also result in ambiguity in the interpretation of their terms. This can lead to disputes between buyers and sellers over the responsibilities and obligations outlined in the agreement.
2. Limited coverage: Incoterms are only intended to cover the delivery of goods and do not address other important aspects of the transaction, such as the payment of goods, warranties, and intellectual property rights.
3. Outdated provisions: Incoterms are updated every 10 years, but changes in transportation and logistics practices, as well as other commercial developments, can render some provisions outdated. This can result in a lack of clarity around obligations and responsibilities, particularly in new or complex commercial arrangements.
4. Non-binding nature: While Incoterms are widely used and accepted in international trade, they are not legally binding and are only enforceable if specifically incorporated into a contract between the buyer and seller.
5. Lack of uniformity: Incoterms are used globally, but the interpretation and application of their terms can vary between countries and regions, leading to potential misunderstandings and disputes.

Move Forward with Expertise

Considering the complexity of the global supply chain and the endless combinations of market participants, it’s important to keep potential gains and shortfalls of using Incoterms in mind. It’s critical to ensure that they’re used in the context of a well-drafted contract that clearly outlines the rights and obligations of both the buyer and the seller.

Partnering with an experienced trade expert or a logistics specialist such as Brimich can help you navigate the limitations of Incoterms and ensure that they’re used effectively in your international trade transactions.

At some point imported products moving across national borders switch from being the seller’s property to the buyer’s property. But exactly where and when is ownership transferred? And who’s liable for the risks and costs while the products are in transit?

Since international shipping agreements have been used for literally thousands of years, the resulting modernized contracts between buyer and seller help answer these questions in a legally binding way.

At any given point along the transport route, the International Commerce Terms (Incoterms) of CIF and FOB determines exactly who is responsible for the liability of the goods.

When it comes to the logistics of FOB vs CIF, which is best for your business? Let’s find out.

FOB vs CIF Shipping Terms Explained

What Is FOB Shipping?

FOB refers to “freight on board” or “free on board”. FOB terms come in two parts: Collect or Prepaid, and Origin or Destination.

FOB Origin means the buyer assumes title of the goods at the point of origin. In other words, the buyer is responsible for the goods at the moment the shipper loads the goods onto the freight carrier.

FOB Destination means the buyer assumes title of goods at the point of destination. Again in other words, the shipper owns the goods while they are in transit.

In practice, FOB Origin is the more common form of FOB – buyers assume all responsibility for the goods the moment they leave the seller’s hands.

Freight Collect means the buyer is responsible for freight charges; which is more often the case.

Freight Prepaid means the seller has paid the charges in advance.

In everyday terms, FOB will usually refer to FOB Origin, Freight Collect: the buyer assumes ownership and responsibility for the shipment once it leaves the originating point.

Thus, the typical FOB process works like this:

• The seller loads the freight on the vessel of the buyer’s nomination.
• The seller clears the freight for export from their country.
• The freight hauler then picks up and signs for the shipment, at which point the title of goods transfers to the buyer.
• The buyer is now responsible for any risks and insurance costs associated with the transportation of the freight for the duration of transit.

Why Use FOB?

For buyers, FOB is typically the most cost-effective option in that buyers don’t have to pay a high fee to sellers as they might with CIF – explained shortly.

The key element being the ability to choose their freight forwarder which allows them more control over the freight costs and timing. If anything were to happen to the shipment, they hold title and responsibility allowing better access to information that solve problems.

Sellers also benefit from FOB in that they don’t have responsibility for the goods. Once the shipment leaves their warehouse, sellers can then enter the sale as “completed” and not have worry about additional costs or problems.

When Not to Use FOB

As a new importer, it’s not recommended to use FOB. Keep in mind buyers must retain more liability for the goods while in transit.

Without experience and a full understanding of the intricacies of overseas shipments, new buyers can make costly mistakes that can result in severe penalties.

Alternatively, a CIF contract may be a better choice until a new buyer gains experience and better understands importation processes.

What Is CIF Shipping?

CIF, known as “cost insurance and freight”, is used by sellers to maintain primary ownership until delivery at the destination port.

In other words, the seller assumes responsibility for the shipment and covers the cost of  insurance until it reaches its point of destination with the buyer.

At the moment the goods pass the boat’s railing at buyer’s port of destination, ownership and liability transfer from the seller to the buyer.

This way, sellers are responsible for everything involved with shipping once it leaves their home port. They must provide the necessary customs documents for both countries, including paying insurance costs, and assume liability for the safe delivery of the shipment.

Why use CIF?

As a buyer, the main reason to choose CIF would be for convenience. Because the seller is taking on the responsibility, you don’t have to deal with any claims, risks, or concerns while the freight is in transit.

As a buyer unfamiliar with the intricacies of shipping overseas, this is especially important for when acting as an importer. Many importers will also use CIF when shipping small batches of cargo. The cost of insurance for these smaller volumes can be higher than CIF fees charged by sellers.

As a seller, providing the service of shipping CIF can generate higher margins, but at the risk of maintaining ownership and responsibility of the goods while in transit.

When Not to Use CIF

Compared to FOB, CIF comes at a higher cost for buyers: sellers invoice buyers to cover costs of shipping and insurance.

As mentioned, sellers can add additional fees for the service to make a larger profit. Therefor using CIF provided by the seller ends up costing more for the buyer.

In a nutshell, buyers are paying a premium for convenience. Not only that, buyers also give up control over their shipment. If there’s a problem with a CIF shipment, a buyer will have a much harder time getting the right shipping information because technically, they don’t own the goods.

Moreover, buyers must rely on the seller to provide accurate Importer Security Filing document (ISF). If buyers file this late, there are serious penalties and fines. Hence, this reliance leaves buyers in a vulnerable position.

Finally there’s the issue of insurance. With CIF, sellers own the insurance policy covering the freight while in transit. Therefor the seller is the beneficiary of a payout should there be a claim.

Because the buyer has usually made some form of financial commitment, this can result in massive delays and communication issues while the problems of compensation and replacement are worked out.

FOB and CIF Ownership Agreements in Summary

In a nutshell, the major difference between FOB and CIF is in transference of liability and ownership.

With FOB, title possession and liability usually shift when the shipment leaves the point of origin.

With CIF, responsibility moves to the buyer once the goods reach the point of destination.

Simply put, on the whole it’s recommended that buyers use FOB, and sellers use CIF.

FOB provides greater control and saves buyers money, but CIF helps sellers maintain a higher profit. The caveat being that new buyers would be better advised to use CIF until they get accustomed to the import process.

Whether you’re moving products across town or across the world, contact Brimich to help make the right decisions.