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Understanding Incoterms®: A Guide to Global Trade Logistics

This article will demystify Incoterms®, providing a comprehensive guide for foreign trade managers. Understanding Incoterms® is crucial in international trade as they define the responsibilities of buyers and sellers for the delivery of goods under sales contracts. They clarify costs, risks, and obligations, ultimately aiding in smoother transactions and fewer disputes. In this guide, we'll answer the following questions:

1. What are Incoterms® and why are they essential for global trade?
2. How do Incoterms® influence supply chains and shipping terms?
3. What are the common Incoterms® used in international transactions?
4. How can understanding delivery terms and freight terms benefit your business?

What are Incoterms® and Why are They Important?

Incoterms®, short for International Commercial Terms, are a set of rules established by the International Chamber of Commerce (ICC) to define the responsibilities of buyers and sellers in international trade. These terms are essential in global trade as they provide a common language and framework, ensuring that all parties involved in international transactions have a clear understanding of their obligations.

By clearly outlining who is responsible for each aspect of the shipping process—from freight terms and delivery terms to handling customs duties—Incoterms® help streamline supply chains and improve efficiency. Created in 1936 and regularly updated to reflect changes in the global trade environment, Incoterms® are designed to keep pace with the evolving landscape of international transactions. They serve the purpose of providing a standardized set of shipping terms that can be universally understood and applied. 

How Do Incoterms® Help Businesses in International Trade?

By providing a clear framework for responsibilities, risks, and costs associated with international transactions, Incoterms® help foreign trade managers navigate the complexities of global logistics with greater ease and precision.

One of the key benefits of Incoterms® is their ability to delineate the point at which the risk transfers from the seller to the buyer. This clarity reduces the potential for disputes and ensures that both parties are on the same page regarding the shipping terms and delivery terms. For instance, under the Incoterm FOB (Free On Board), the seller's responsibility ends once the goods are loaded onto the shipping vessel. From that point forward, the risk and cost of freight terms shift to the buyer. 

Additionally, Incoterms® play a crucial role in cost management within supply chains. By specifying who is responsible for transportation costs, insurance, and customs duties, Incoterms® prevent unexpected expenses that can arise during international transactions. For example, with the DDP (Delivered Duty Paid) Incoterm, the seller bears all costs and risks associated with delivering the goods to the buyer's location, including import duties. 

Moreover, Incoterms® enhance the efficiency of supply chains by providing a standardized set of rules that are recognized globally. This standardization simplifies contract negotiations and ensures that all parties involved understand their roles and obligations, leading to smoother and more predictable trade operations. 

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Which Parties Benefit the Most from Incoterms® 2020?

Incoterms® 2020 offer significant advantages to various stakeholders in the global trade supply chain, providing clarity and reducing the risk of misunderstandings in international transactions. These terms benefit exporters, importers, freight forwarders, and insurers.

  • Exporters gain substantial benefits from Incoterms® 2020 as these terms outline their obligations clearly, ensuring they understand at what point their responsibility ends. For instance, with the EXW (Ex Works) term, exporters know their duty is fulfilled once the goods are made available at their premises. 

  • Importers also reap significant advantages from Incoterms®. These terms help importers understand their responsibilities for shipping, insurance, and customs duties, allowing them to plan and control costs accurately. For example, under the CIF (Cost, Insurance, and Freight) term, importers know that the seller covers the cost and freight to the destination port, including insurance. 

  • Freight forwarders play a critical role in global trade logistics, and Incoterms® 2020 provide them with a standardized framework to work within. By knowing the specific shipping terms and delivery terms applicable to each transaction, freight forwarders can coordinate logistics more efficiently, ensuring that goods move smoothly through the supply chain. 

  • Insurers benefit from Incoterms® as well by having a clear understanding of when the risk transfers from the seller to the buyer. This clarity allows insurers to assess and price risks more accurately, providing appropriate coverage for international transactions. For example, knowing that risk transfers to the buyer at the port of shipment under the FOB term enables insurers to tailor their policies accordingly.

Differences Between Incoterms® 2010 and Incoterms® 2020

One of the significant updates in Incoterms® 2020 is the introduction of DPU (Delivered at Place Unloaded), replacing DAT (Delivered at Terminal). This change eliminates confusion by allowing delivery to any location, not just terminals, offering more flexibility in shipping terms and delivery terms. Additionally, Incoterms® 2020 emphasize security, detailing each party's responsibilities in safeguarding goods during transit. This focus on security is crucial for minimizing risks and enhancing the quality of international transactions.

Incoterms® 2020 also provide clearer guidance on cost allocation between buyers and sellers, covering freight terms, loading, unloading, and insurance more precisely. This helps foreign trade managers manage expenses and avoid unexpected charges. Enhanced communication and documentation requirements ensure better coordination and fewer disputes in supply chains. Furthermore, the new rules address the use of own transport by buyers or sellers, reflecting modern logistics practices and offering clearer guidelines for these scenarios.


What are the Incoterms® 2020?

These are the incoterms® in force since January 1, 2020:

EXW - Ex Works
The seller/exporter places the goods at the disposal of the buyer in its own warehouses, limiting itself exclusively to the packing of the goods. 

The buyer/importer, therefore, assumes all costs and responsibilities from the moment the goods cross the warehouse threshold before loading. Although insurance is not compulsory, if it is taken out, it is the responsibility of the buyer, as it is he who assumes the risk. 
FCA - Free Carrier
The seller delivers the goods at the named place and bears the costs and risks until delivery at the named place, including the costs of export clearance. In this context, the seller is responsible for inland transport to the named place and for export customs clearance. However, if the named place is the seller's premises (FCA warehouse), the goods are delivered at that point and loaded onto the means of transport arranged by the buyer, at the buyer's expense. 

The buyer bears the costs and risks of transport from delivery at the point agreed with the seller, from loading to unloading, including insurance if it has been taken out, since it is the buyer who bears the risk when loading the goods on the first means of transport. 

FAS - Free Alongside Ship
The seller delivers the goods at the loading dock of the vessel's home port, chosen by the buyer, and is responsible for all costs up to delivery, including customs export formalities. 

The buyer is responsible for loading on board, stowage, freight and other expenses until delivery at destination. The risk of loss or damage to the goods is transferred when the goods are alongside the vessel before being loaded on the vessel. 

FOB - Free On Board
The seller covers the costs at origin, including export clearance, until the goods are on board the vessel designated by the buyer.

The buyer bears the costs of freight, unloading, import formalities and delivery at destination, as well as insurance if he chooses to take out insurance. The transfer of risk occurs once the goods are on board the vessel.

CFR - Cost and Freight
The seller assumes all costs at origin, including export clearance of the goods, freight to the port of destination and general unloading costs.

The buyer is responsible for import formalities and inland transportation to the destination, assuming the risk once the goods are on board the vessel and may or may not take out insurance.

CIF - Cost, Insurance and Freight
The seller assumes all costs until arrival at the port of destination under the CFR modality, such as export clearance, costs at origin, freight and may also include unloading. However, in this case, the seller must initially contract a limited coverage insurance in accordance with Clauses C of the Institute Cargo Clauses (ICC) or any other similar set of clauses, but in this version of Incotermes 2020 it must cover up to the arrival at the port of destination, although it may be subject to the agreement between the parties.
The buyer is responsible for covering import and transportation costs to the place of destination.

CPT - Carriage Paid To
The seller covers all costs until delivery of the goods at the agreed place, including costs at origin, export clearance, main transport and, generally, costs at destination.

The buyer is responsible for import formalities and may take out insurance, although it is not compulsory. The risk is transferred to the buyer once the goods are loaded on the first means of transport contracted by the seller; therefore, it is advisable that the parties clearly specify in their contract both the delivery point where the risk is transferred to the buyer and the agreed destination where the seller will finalize the transport contract.

This Incoterm is valid for any means of transport.

CIP - Carriage and Insurance Paid
The seller covers all costs until delivery at the agreed place of destination, including costs at origin, export clearance, freight, in addition to contracting insurance, which is mandatory to obtain limited insurance coverage under Clauses A of the Institute Cargo Clauses (ICC) or any other similar set of clauses, the parties are free to agree on a lower level of coverage.

The buyer assumes responsibility for import formalities and delivery to the final destination, assuming the risk by loading the goods on the first means of transport.

DPU - Delivered at place Unloaded
The seller assumes the costs and risks from origin, including packing, loading, export clearance, freight, unloading at destination and delivery at the agreed point.

The buyer is responsible for import clearance formalities. In addition, the buyer must notify the seller and provide all necessary security information for the export, import and transportation of the goods to their final agreed destination.

This Incoterms® is newly created and replaces DAT (Delivered At Terminal). It actually expands the delivery options, as it specified delivery at the terminal, while DPU allows delivery to another agreed location other than the terminal.

DAP - Delivered At Place
The seller assumes all costs and risks of the operation, except for import clearance and unloading at destination. This includes all costs at origin, freight and inland transportation.

The buyer is only responsible for import clearance and unloading.
This Incoterm is valid for all means of transport, insurance is not compulsory, but if it is contracted, the costs will be borne by the seller.

DDP - Delivered Duty Paid
The seller assumes all costs and risks from packing and verification in its warehouses to delivery at the final destination, also covering the costs of export clearance services, as well as import clearance, freight and insurance if contracted.

The buyer must only receive the goods and generally unload them, although the seller may also be involved.

This Incoterm is just the opposite of EXW, the seller assumes all costs and risks.

How to use Incoterms® 2020 according to its modality?

In order to use Incoterms®, it is essential that it is clearly specified in the sales contract: the Incoterms® rule selected (considering the modality of its use); the port, place or site designated; followed by "Incoterms® 2020".

Example: CIF Manzanillo Incoterms® 2020 

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In summary, understanding Incoterms® is essential for navigating the complexities of global trade. These international shipping terms provide clarity on responsibilities, risks, and costs, ensuring smoother international transactions and more efficient supply chains. By comprehending what Incoterms® are and their role in global trade, foreign trade managers can better manage coverage, costs, experience, and availability while taking advantage of customs and tax benefits.

Trade professionals need to stay informed about Incoterms® and their periodic updates. This knowledge not only helps in current operations but also prepares businesses for future changes in global trade practices. At Ventus, we understand the importance of precise and effective use of Incoterms® in global trade logistics. Reach out to us to learn more about how we can support your business in navigating the complexities of global trade and optimizing your supply chain.