Incoterms® Rules
Helping you understand the importance of the Incoterms Rules, and why choosing the right rule and using it in the right way is essential
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The importance of the Incoterms rules
Published by the International Chamber of Commerce, the Incoterms rules allow buyers and sellers to transact business with the certainty that each understands:
- the various obligations of the seller and the buyer,
- the point at which the risk of loss of or damage to the goods passes from the seller to the buyer, and
- which party bears the various costs associated with the shipment.
Why do we need the Incoterms rules?
In the days of horses, carts and sailing ships, if a merchant wanted to export goods, they only really had control over two main things:
getting the goods to a port, and
handing them over to the master of a ship bound for their intended destination.
Crucially, once the goods were on board the ship, it was impossible for the seller to have any further control over what happened to them.
Essentially, the goods became the buyer’s problem, and by custom of trade, the risk of loss or damage transferred to the buyer at that point.
Today, however, things are more complex; but the fundamental principle of defining the point at which risk transfers from the seller to the buyer remains a key element of the rules, and specific consideration needs to be given to ensuring that the risk transfer point aligns with the method of carriage, particularly for containerised goods.
The Incoterms rules comprise eleven separate terms of sale, split into two groups.
How goods are transported and which Incoterm rule is appropriate
For the majority of goods:
- International trade is not just by sea, it can be by road, rail, or air as well, and a single movement of goods often uses more than one of these methods of carriage.
- About 60% of all world trade is transported in containers.
- Contracts of carriage are mainly arranged on a warehouse-to-warehouse basis, rather than port-to-port only.
- The method or methods of carriage may not even involve a ship at all.
If FAS, FOB, CFR or CIF are used for containerised goods, and then those goods are damaged in the country of origin, there may be a dispute about whether the seller or the buyer bears that loss.
Choosing the right Incoterm rule and using it in the right way is essential
Using terms that are designed for modern, multimodal carriage means that sellers and buyers can be confident that they both have the same understanding about exactly where the risk of loss or damage passes from the seller to the buyer.
The risk transfer point, which is called the “delivery” point in the Incoterms rules, is important in relation to marine cargo insurance underwriting and claims, because it is a factor in establishing insurable interest. (Another factor is title; but the Incoterms rules do not deal with payment or the passing of title.)
Because banks will only release funds to sellers on presentation of documents that match the applicable terms of sales, where sales are made against letters of credit, care should be taken to ensure that the incorporated terms are appropriate for the method of carriage.
Understanding the rules and responsibilities
Terms of sale can be thought of as sitting on a sliding scale of responsibilities, which are split between buyers and sellers according to the Incoterms rules.
At one end, risk and cost are loaded towards the buyer, and at the other end they fall mainly with the seller. The principal consideration is who arranges and pays for the main carriage...
FCA - The seller leaves most things to the buyer
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The named place is the seller’s premises, and risk transfers from the seller to the buyer when the goods are loaded to the carrier’s vehicle at the seller’s premises.
The onward carriage is arranged and paid for by the buyer.
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The named place is the place where the goods are handed over to the main carrier (typically this is the carrier’s terminal in the country of origin), and risk transfers from the seller to the buyer when the goods are made available to the carrier, i.e. ready for unloading from the seller’s vehicle.
The onward carriage is arranged and paid for by the buyer.
CPT – The seller arranges the main carriage
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The named place is the place to which the main carriage is arranged, but risk transfers from the seller to the buyer when the goods are handed over to the main carrier (typically, this is in the country of origin, often at or relatively close to the seller’s premises).
The named place is therefore not the same as the risk transfer point.
The main carriage is arranged and paid for by the seller up to the named place.
CIP – The seller arranges cargo insurance for the benefit of the buyer
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The named place is the place to which the main carriage is arranged, but risk transfers from the seller to the buyer when the goods are handed over to the main carrier (typically, this is in the country of origin, often at or relatively close to the seller’s premises).
The named place is therefore not the same as the risk transfer point.
The main carriage is arranged and paid for by the seller up to the named place.
The seller also arranges insurance cover for the benefit of the buyer from the risk transfer point up to at least the named place.
The D-terms – The buyer leaves most things to the seller
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The main carriage is arranged and paid for by the seller up to the named place, and risk does not transfer from the seller to the buyer until the goods are ready for unloading from the conveyance at the named place (typically, this is in the country of destination, often at or relatively close to the buyer’s premises).
The risk transfer point is therefore the same as the named place, and it is prudent for the seller to arrange insurance for their own benefit during the main carriage.
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The main carriage is arranged and paid for by the seller up to the named place, and risk does not transfer from the seller to the buyer until the goods are unloaded from the conveyance at the named place (typically, this is a carrier’s terminal in the country of destination, prior to the last leg of the journey).
The risk transfer point is therefore the same as the named place, and it is prudent for the seller to arrange insurance for their own benefit during the main carriage.
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The main carriage is arranged and paid for by the seller up to the named place, and risk does not transfer from the seller to the buyer until the goods are ready for unloading from the conveyance at the named place (typically, this is in the country of destination, often at or relatively close to the buyer’s premises).
The risk transfer point is therefore the same as the named place, and it is prudent for the seller to arrange insurance for their own benefit during the main carriage.
The seller (or typically their freight forwarder) is also required to arrange import clearance of the goods into the country of destination.
Incoterms that should be approached with caution
In this section, we look at:
- why EXW (“ex-works”) sometimes isn’t appropriate for imports, and
- the four terms that are designed for port-to-port shipments only, and which therefore aren’t suitable for containerised cargo – FAS, FOB, CFR and CIF.
This term is suitable for most kinds of goods, carried by road, rail, air, sea or inland waterway (or any combination of these).
The named place is typically in the country of origin (usually at or relatively close to the seller’s premises), and risk transfers from the seller to the buyer when the goods are made available to the buyer, i.e. ready for loading onto the carrier’s vehicle.
The onward carriage is arranged and paid for by the buyer.
It could be argued that EXW (“ex-works”) should sit at the top of the list, because it places an even greater burden on the buyer; but many importers avoid its use because it makes them responsible for loading the goods and for export clearance, neither of which may be practical for them to arrange.
This term is not suitable where the main carriage is wholly or partly by road, rail or air, including warehouse-to-warehouse transportation in containers or trailers, even if there is a sea crossing.
It is only suitable for bulk and break-bulk commodities, where the main carriage is purely a port-to-port shipment by sea or inland waterway.
For containerised goods, take a look at FCA instead.
The named place is the port of departure, and risk transfers from the seller to the buyer when the goods are alongside the vessel ready for loading at the port of departure.
The onward carriage is arranged and paid for by the buyer.
This term is not suitable where the main carriage is wholly or partly by road, rail or air, including warehouse-to-warehouse transportation in containers or trailers, even if there is a sea crossing.
It is only suitable for bulk and break-bulk commodities, where the main carriage is purely a port-to-port shipment by sea or inland waterway.
For containerised goods, take a look at FCA instead.
The named place is the port of departure, and risk transfers from the seller to the buyer when the goods are loaded onto the vessel at the port of departure - the “FOB point”.
The onward carriage is arranged and paid for by the buyer.
This term is not suitable where the main carriage is wholly or partly by road, rail or air, including warehouse-to-warehouse transportation in containers or trailers, even if there is a sea crossing.
It is only suitable for bulk and break-bulk commodities, where the main carriage is purely a port-to-port shipment by sea or inland waterway.
For containerised goods, take a look at CPT instead.
The named place is the port of destination, but risk transfers from the seller to the buyer when the goods are loaded onto the vessel at the port of departure - the “FOB point”.
The named place is therefore not the same as the risk transfer point.
The main carriage is arranged and paid for by the seller up to the destination port.
This term is not suitable where the main carriage is wholly or partly by road, rail or air, including warehouse-to-warehouse transportation in containers or trailers, even if there is a sea crossing.
It is only suitable for bulk and break-bulk commodities, where the main carriage is purely a port-to-port shipment by sea or inland waterway.
For containerised goods, take a look at CIP instead.
The named place is the port of destination, but risk transfers from the seller to the buyer when the goods are loaded onto the vessel at the port of departure - the “FOB point”.
The named place is therefore not the same as the risk transfer point.
The main carriage is arranged and paid for by the seller up to the destination port.
The seller also arranges insurance cover for the benefit of the buyer from the “FOB point” up to at least the destination port.
Letters of Credit
Disclaimer
The information provided in this content is intended for UK insurance brokers acting on behalf of their prospective or existing clients.
Any description is for general information purposes only and does not constitute an offer to sell or a solicitation of an offer to buy any product. Policyholders who have questions or wish to arrange or amend cover should contact their insurance broker. Insurance brokers can find details of how to contact us here.
Any descriptions of coverage contained are meant to be general in nature and do not include nor are intended to include all of the actual terms, benefits, and limitations found in an insurance policy. The terms of any specific policy will instead govern that policy. Any guidance for UK insurance brokers is intended to provide general information only, and should not be used as a substitute for legal advice.