What Are Incoterms? All 11 Explained

To facilitate global trade, the International Chamber of Commerce (ICC) released 11 international commercial terms — Incoterms. These rules dictate the roles of exporters and importers in the trade of goods, mitigating ambiguity in foreign sales contracts.

International and domestic trade participants commonly use Incoterms to clarify the exact terms of the arrangement. These rules outline the specific obligations, costs, and liabilities assumed by buyers and sellers in a trade contract.

History of Incoterms

After WWI caused a massive disruption in global trade, a group of financiers, traders, and industrialists sought to work together to bring economic prosperity. This led to the establishment of the ICC in 1919 which created the first version of the Incoterms in 1936. 

The initial Incoterms included FAS (Free Alongside Ship), FOB (Free On Board), CFR (Cost and Freight), CIF (Cost, Insurance, and Freight), DES (Delivered Ex Ship), and DEQ (Delivered Ex Quay).

Over the years, the organization has refined, changed, and added to the terms. The latest version, released in 2020, includes 11 Incoterms.

Why are Incoterms important?

Incoterms serve as a universal rulebook for the smooth running of international and domestic trade. They offer a common language employed by traders to negotiate and set specific terms.

Incoterms allocate risks and responsibilities between buyers and sellers. They specify who is responsible for specific tasks required to carry out the shipment, such as transport, insurance, customs clearance, and delivery. 

Having a clear understanding of these obligations helps both parties anticipate and manage risks effectively while ensuring transparent cost distribution.

The 11 Incoterms

These are the 11 Incoterms currently published by the ICC in 2020:

EXW (Ex Works)

Definition: Under EXW, the seller’s duty is fulfilled once the goods are made available at their premises or another named place.

Seller’s and buyer’s responsibilities: The seller is responsible for export packaging and marking, preparing the invoice, and making the goods available for pickup at the chosen location. 

All costs and liability are transferred to the buyer from that point onwards. The buyer must pay for the goods and undertake export and import clearance procedures, inspection charges, and transport arrangements until the final delivery point.

FCA (Free Carrier)

Definition: FCA dictates that the seller must deliver the goods to the buyer’s carrier at a named location.

Seller’s and buyer’s responsibilities: Aside from the responsibilities mentioned above, the seller must also cover export inspection charges, duties, taxes, and documentation. They must cover the costs of pre-carriage and delivery to the buyer’s carrier. 

The buyer then assumes all liability and costs, covering import clearance, inspection, and transport to the final point.  

CPT (Carriage Paid To)

Definition: CPT requires the seller to transport the goods to the first carrier at an agreed-upon location.

Seller’s and buyer’s responsibilities: Additional duties of the seller include bearing all costs to the final delivery point in the destination country. However, their liability ends once the goods are handed over to the first carrier at the shipment location. 

The buyer bears liability afterwards but does not cover costs until after the final delivery point.

CIP (Carriage and Insurance Paid To)

Definition: CIP outlines the same rules as CPT. However, the seller must obtain insurance for the goods during carriage.

Seller’s and buyer’s responsibilities: The seller and buyer assume the same liability and costs as in CPT. As an additional obligation, the seller must insure the goods against damage or loss during transport.

DAP (Delivered At Place)

Definition: DAP requires the seller to make the goods available to the buyer at an agreed-upon place, ready for unloading.

Seller’s and buyer’s responsibilities: The seller bears all risks and costs until the goods are delivered to an agreed-upon location. The buyer takes over responsibility from that point, including unloading, import clearance, and transport to the final delivery point.

DPU (Delivered at Place Unloaded)

Definition: DPU has the same rules as DAP. However, the seller must unload the goods at the named place.

Seller’s and buyer’s responsibilities: The seller bears all costs and risks until the goods are unloaded at the named location. The buyer then assumes all expenses and liability, covering any further transport, if necessary.

DDP (Delivered Duty Paid)

Definition: DDP outlines similar rules as DAP, but requires the seller to cover both import and export formalities.

Seller’s and buyer’s responsibilities: The seller must cover all costs and risks until the goods are delivered to the agreed-upon location. They must cover all export and import tasks and costs, including inspections, documentation, duties, and taxes. 

The buyer assumes liability after delivery to the named place, covering unloading and further delivery costs (if applicable). The buyer must also assist the seller in obtaining the necessary documentation.

FAS (Free Alongside Ship)

Definition: FAS requires the seller to deliver the goods next to the vessel at the origin port.

Seller’s and buyer’s responsibilities: The seller must deliver the goods alongside the ship without loading them, but covering all necessary export duties and documentation. They assume all costs and liability until this point. The buyer is responsible for the goods afterward, covering import formalities and loading and transport costs to the final delivery point.  

FOB (Free On Board)

Definition: FOB rules are the same as FAS. However, the seller must load the goods onto the vessel at the named departure port.

Seller’s and buyer’s responsibilities: The particular roles of sellers and buyers are distinguished by the type of FOB term used. Under “FOB Origin,” the seller’s risk transfers to the buyer once the goods board the ship at the port of origin. 

In “FOB Destination,” the transfer of risk occurs once the goods are delivered to a specified location in the importing country. These terms are further broken down into “Freight Collect” and “Freight Prepaid.” 

In the former, the buyer covers all costs after the goods are loaded onto the vessel. In the latter, the seller covers the main carriage costs.

CFR (Cost and Freight)

Definition: Under CFR, the seller must pay for the carriage of goods to the named destination port.

Seller’s and buyer’s responsibilities: The seller’s liability transfers to the buyer once the goods board the vessel at the port of origin. However, they must cover all export formalities and costs until the goods reach the named destination port. 

The buyer covers all import formalities, paying for discharge and onward transport to the final point.

CIF (Cost, Insurance, and Freight)

Definition: CIF outlines the same rules as CFR, with an additional requirement for the seller to cover maritime insurance.

Seller’s and buyer’s responsibilities: The cost and risk transfer point is the same as in CFR. The seller and buyer assume the same duties, but the seller must also insure the goods against loss or damage during the main carriage.

Choosing the right Incoterm

Mode of transport

CIF, FAS, FOB, and CFR are the four Incoterms exclusive to inland waterway and ocean transport. The rest of the Incoterms are suitable for any mode of transport, including air, sea, road, rail, and multimodal delivery.

Import or export?

Choosing which Incoterm to apply depends on the particular preferences of importers and exporters. For example, DPU, DAP, and DDP are often preferred by importers in international trade as these terms place minimal responsibility on them.

Exporters might opt for EXW if they want minimal responsibility, primarily for domestic trade. FOB is commonly chosen by exporters for sea shipments, as it transfers risk to the buyer after loading the goods.

Other Incoterms, such as FCA, CPT, and CIP, offer flexibility and convenience for both importers and exporters in multimodal transport.

Customs experience

Inexperienced sellers might prefer Incoterms that place minimal or no customs responsibility on them, such as EXW. Similarly, new buyers unfamiliar with customs laws might prefer DDP, where the seller handles both import and export formalities.

All the other Incoterms place import responsibilities on the buyer and export obligations on the seller.

Insurance

CIF and CIP are the only two Incoterms where the seller is required to provide insurance for the goods during transit. The difference is that CIP requires extensive coverage, against all types of risks, while CIF requires minimal coverage, which is much more affordable. If sellers and buyers wish to set their own insurance terms, they can choose any other Incoterm.  

Types of goods

• EXW works best for goods manufactured and available at the seller’s premises. These include spare parts, raw materials, or finished products.

• CIF and CFR are most commonly used for bulk and break-bulk cargo that is non-containerized. These include ores, oil, coal, and grain.

• CPT is best for containerized goods that need to be delivered to an inland point.

• FAS and FOB can only be applied to non-containerized cargo, such as bulk cargo, chemicals, and commodities such as grains, as these are directly loaded onto the vessels.

• CIP and FCA are suited to containerized cargo as the risk transfer occurs after delivery to the first carrier. In this case, it would be the container yard.

• DPU, DDP, and DAP are exclusively created for containerized transport. These terms are popularly used for high-value, high-tech cargo as the seller retains most of the risk.

Budget

EXW often proves to be the cheapest Incoterm for buyers as it places few responsibilities on sellers. Freedom to arrange transport yourself can help you save costs if you’re familiar with the seller’s country. If you’re looking at sea or inland waterway transport, FOB can be the cheapest option.

Buyer/seller relationship

If sellers wish to have more control over logistics, they will prefer terms like DDP, DPU, or DAP where they arrange for transport to an agreed location in the destination country, retaining ownership until that point. If buyers want to handle all the logistics, they might opt for EXW or FCA.

Impact of choosing the right Incoterm

Choosing the right Incoterm can significantly benefit both buyers and sellers. Here’s how:

• Supporting cost-effective trade by clearly allocating transport duties and costs

• Mitigating risks via ownership transfer points, reducing potential disputes

• Optimizing supply chain management by improving buyer-seller coordination

• Ensuring transparent communication by using standardized language

• Streamlining compliance and dispute resolution by aligning legal obligations

FAQs

Are Incoterms mandatory?

No, Incoterms are not mandatory as they are not enacted by governments. They serve as guidelines for entering a trade contract.

Can Incoterms be used for domestic trade?

Although Incoterms are primarily designed for international trade, they can also be used domestically. They are well-understood in the transportation industry and can simplify local commercial agreements. EXW is a good option for domestic trade.

How often are Incoterms updated?

The first version of Incoterms was published in 1936. Since then, the terms have been updated nearly every decade to keep up with the changing landscape of international commerce and logistics.

What happens if there is a dispute under an Incoterm?

In case of disputes, both parties can refer to the specific contract terms or seek resolution through arbitration or legal action. To avoid this entirely, it’s best to outline clear points of delivery and cover all aspects of the sale in the agreement.