When you’re new to the world of shipping, the terminology can feel overwhelming. Experienced shippers, buyers, and sellers may even sound like they’re speaking a foreign language.

One set of terms that causes considerable confusion are Incoterms®. This set of rules, created by the International Chamber of Commerce (ICC), defines the responsibilities of buyers and sellers around the delivery of goods. The ICC updates this set of rules every ten years, with the most recent update—the aptly named Incoterms 2020 rules—released in 2020.

The Incoterms rules form a crucial part of any agreement between buyers and sellers by dictating who will pay for loading and unloading costs, customs export procedures, insurance, import costs, and more. By understanding the Incoterm rule defined in a contract, buyers and sellers can get a firm grasp on their costs and, ultimately, their margins. However, without this understanding, one party may end up footing the bill for more than they bargained for.

In this article, we’ll get you up to speed on Incoterms—what they are, what they mean, what to look for, and what to avoid. We’ll also give you a detailed walkthrough of the five most common Incoterms rules. Armed with this information, you’ll both be able to speak the secret language of shippers and sellers and become a savvy negotiator who knows how to protect your bottom line.

What Are Incoterms?

Incoterms are a set of rules created by the ICC to establish who’s responsible for shipping, insurance, and tariffs in a contract between a buyer and a seller.

In the simplest terms, Incoterms can reduce confusion between buyers and sellers. By defining eleven different costs in a three-letter designation, the Incoterms rules quickly define who will pay for what.

Note: Even though the Incoterms rules were updated in 2020, some parties may still use the Incoterms 2010 rules. (Or an earlier version!) Make sure that both parties to your contract are working from the same version.

You can see a full run-down of all eleven Incoterms in the following chart:

full image of 2020 incoterms

[Download This Chart as a PDF]

Here’s how these Incoterms come into play: As a buyer defining your agreement with your seller, you’ll negotiate two elements:

  1. The three-letter Incoterms designation, which you can decode with the chart above.
  2. The named place for the final destination, which ensures delivery to a location where you can access your freight, either to pick it up or arrange for further transport. (Note: It’s important to get very specific, especially in cities with multiple ports. Otherwise, you may spend a day chasing your delivery around.)

Before signing any contracts, make sure to review both of these elements carefully. If you make a mistake—or agree to terms that you’re not comfortable with—you could end up paying a lot more than you’d budgeted for. You’ll understand why as we dive into the five most common Incoterms you’ll encounter.

What Changed from 2010 to 2020?

The ICC updates the Incoterms rules every ten years. The most recent update, in 2020, included six key changes. In brief, these included:

This change offers buyers more flexibility in terms of delivery location. Read more about the DPU Incoterm.

This insertion reduced a significant risk to sellers in a very specific case—when letters of credit were used as payment. Read more about the FCA Incoterm.

Under the 2020 rules, the seller must purchase more complete coverage as defined by Clause A of the Institute Cargo Clauses. Read more about the CIP Incoterm.

Whereas previous Incoterms implied that sellers would use third-party delivery services, the ICC added explicit language allowing sellers to also use their own transportation methods to move goods.

The new version of the Incoterms rules offers new clarity to avoid any confusion.

To make the rules even easier to use, the ICC reordered the terms and added additional notes for clarity.

Get the full scoop on the 2020 Incoterms changes.

Get your official copy of 2020 Incoterms

Who Is the ICC?

At this point, you might also be wondering who the ICC—and why they’re the organization responsible for these standardized rules. The ICC is the largest business organization in the world, represents more than 45 million member companies in more than 100 companies.

The ICC was founded after World War I, at a time when there was no global system of rules to govern trade or commercial relations. The organization was built around the belief that the private sector, rather than government, is best qualified to set global business standards. Today, their mission is to promote international trade and investment as vehicles for inclusive growth and prosperity.

Get your official copy of 2020 Incoterms

Decoding the 5 Most Common Incoterms

Understanding the established Incoterms rules has become more important than ever. Many new players are shipping and receiving goods, due in part to the continued expansion of online venues such as Amazon marketplace. The Incoterms rules offer buyers and sellers a common language so there are fewer surprises and misunderstandings.

Although the full 2020 Incoterms rules define eleven different scenarios, we’ll cover the five most common ones you’ll see:

EXW (Ex Works)

Under this Incoterm, you’re responsible for everything—picking up the item at the seller’s warehouse all the way through delivering it to the place where you need it. Although this may be the cheapest option up front, at the end of the day, it may end up costing you more. Why? Consider the fact that you’d probably have to pay for a dedicated delivery to port for your single order when the supplier might make multiple, consolidated deliveries each day that they’d probably charge you less for.

Read More

DDP (Delivered Duty Paid)

This is the polar opposite of EXW, in which the seller agrees to take care of all the costs in getting the goods to the location of the buyer’s choosing, including paying any duties involved. This is probably your most expensive option, but it’s the one that involves the least amount of logistics and coordination on your part.

READ MORE

FOB (Free on Board)

This Incoterm dictates that the seller will deliver the goods to a ship of the buyer’s choosing and pay for it to get loaded onboard. The buyer then pays for everything from there, including transport by ship. This may end up being your most cost-effective option, depending on the price you negotiate with your freight forwarder. Note that this is one of 4 Incoterms that only applies to sea/inland waterway transport.

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CIF (Cost, Insurance and Freight)

This is also another Incoterm that only applies to sea/inland waterway transport. Like FOB, the seller will deliver the goods to the vessel and get it loaded on board. However, in addition to the requirements of FOB, the seller will also pay the ocean freight as well as the insurance. Once the vessel arrives in port, the buyer is responsible for the costs, including the unloading of the goods from the ship. You’ll see this Incoterm used frequently in both B2B and B2C transactions.

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FAS (Free Alongside Ship)

Under this Incoterm, which only applies to sea/inland waterway transport, the seller is responsible for transporting goods to the named port on their end. However, once the goods are at the port, it’s the buyer’s responsibility to take it from there, paying for the goods to get loaded on the ship, the ocean freight and everything else needed to get the shipment to its destination.

READ MORE

Budgeting for Your Bottom Line

Now that you understand the most common Incoterms, you may have noticed that the terms can leave your final cost up in the air. In fact, with the exception of DDP, you’ll have to take additional transportation and import costs into account before you can determine the final cost of the goods you’ve purchased.

Need assistance calculating that number? Talk to an experienced freight forwarder. In addition to arranging for transportation in other countries, a forwarder can help you estimate costs, arrange for the correct import/export paperwork, pay duties on your behalf, and expedite the shipping process. They can also walk you through the right Incoterms for your particular situation so you can negotiate more effectively with your suppliers.

As you’re adding up your final cost, there’s one additional number you might want to take into account when you’re budgeting: insurance. Two 2020 Incoterms rules require that the seller pay for insurance:

  • Under the CIF Incoterm, minimum coverage is required, as defined by Clause C of the Institute Cargo Clauses.
  • CIP, on the other hand, requires more complete coverage, as defined by Clause A of the Institute Cargo Clauses.

Additionally, under the DAP, DPU, and DDP Incoterms, the seller is liable for any damage to the shipment up to the door of its destination. However, the seller is not obligated to purchase insurance to cover any losses. Instead, they can choose to pay out of pocket to resolve the situation to both parties’ satisfaction.

If you’re working under an Incoterm rule that includes insurance, make sure you understand the specifics of the coverage. If you need to arrange for insurance, your freight forwarder can assist.

Frequently Asked Questions About Incoterms

In simple terms, Incoterms are a set of rules that define who pays what costs in a transaction between a buyer and a seller. For example, if you’re buying a container of merchandise from Taiwan, the Incoterms in your contract define whether you or the seller will pay for things like loading and unloading costs, customs export procedures, insurance, import costs, ocean freight, and more.

Incoterms act as shorthand to separate out these costs. It also defines when the risk inherent in the shipment transfers between buyer and seller.  

Incoterms define the division of costs and responsibilities between buyers and sellers in international transactions. The 11 Incoterms offer a universal “language” for buyers and sellers to use in their contracts so each party is clear on the charges and duties they’re responsible for.  

The 11 Incoterms, as defined in the 2020 Incoterms rules, are:

The four categories are:

  • C terms – CFR, CIF, CPT, and CIP – Under these Incoterms, the seller pays for and arranges freight, but the risk transfers to the buyer once the goods are loaded.
  • D terms – DAP, DPU, and DDP – Under these three Incoterms, the seller pays the costs and bears the risk to bring the goods to the country of destination.
  • E terms, of which there’s just one, EXW – Under the Ex Works Incoterm, the seller makes goods available to the buyer at the seller’s location, such as a warehouse.
  • F terms – FCA, FAS, and FOB – Under these Incoterms, the seller delivers the goods to a designated carrier, selected by the buyer.

 

EXW stands for Ex Works. Buyers who use the EXW Incoterm are responsible for everything involved with moving freight to its final destination, including picking up the freight at the seller’s location (their warehouse, for example).

The buyer pays for freight under the Ex Works (EXW) Incoterm

FOB stands for Free on Board. Under this Incoterm, the seller pays for all the costs up to and including loading the goods on a ship of the buyer’s choosing. It’s also one of the four Incoterms that applies only to shipments moving via sea and inland waterway.

DDP stands for Delivered Duty Paid. Under this Incoterm, the seller is responsible for getting the goods to an agreed-upon place. The seller also has to pay import duties, taxes, or customs clearance costs.  

DAP is an Incoterm that stands for Delivered at Place. Under the DAP Incoterm, the seller is responsible for the costs and assumes the risks of the shipment until the shipment is unloaded at the place specified in the contract. Unloading costs, as well as any import duties, are the responsibility of the buyer.  

CFR stands for Cost and Freight. This Incoterm only applies to goods moving via sea and inland waterway. In contracts specifying the CFR Incoterm, the seller pays for all the costs up to and including the ocean freight to a destination port of the buyer’s choosing.

FCA is an Incoterm that stands for Free Carrier. When using this Incoterm, the seller delivers goods to an agreed-upon location, such as a terminal or a port. The buyer takes over from there, arranging all future transportation, such as loading onto a vessel, ocean freight, import duties and procedures, etc.

The latest version is the Incoterms 2020 rules. The Incoterms rules are updated by the International Chamber of Commerce every ten years. The previous edition, which is still in use by some buyers and sellers, is the 2010 Incoterms rules.

While it varies, we often see EXW (Ex Works) used in international contracts. It’s one of the easiest for sellers, who only have to make the buyer’s shipment available for pickup.

That said, we also see the following Incoterms used with relative frequency: DDP (Delivered Duty Paid), FOB (Free on Board), CIF (Cost, Insurance, and Freight), and FAS (Free Alongside Ship).

The best Incoterm is the one that fits your budget and plays to your strengths. For example, the EXW Incoterm might offer you the cheapest cost from the seller. However, if this seller is in a country you’re not familiar with, EXW might not be the right Incoterm. After all, it will require you to arrange pickup, drayage, and ocean freight services in a country you don’t know well. (Of course, the right international forwarder could assist you with this!)

 

In other words, choosing the right Incoterm is not just about cost. It’s also about working smart—and not expending all your time and effort on logistics.

By the way, one of the easiest ways to choose the “best” Incoterm is to find a freight forwarder you trust and get their advice. A forwarder can run a few different scenarios for you so you can pick the right Incoterm. Additionally, your forwarder can also coordinate all the logistics, freeing you up to focus on what you do best in your business.

If you’re a buyer negotiating a contract, choosing the EXW Incoterm (Ex Works) might result in the lowest price from your seller. After all, under the EXW Incoterm, the buyer is responsible for absolutely everything—starting with picking up the shipment at the seller’s location.

However, that doesn’t mean that your all-in cost will be lower.

Here’s just one example: Your seller might make frequent drop-offs to a nearby terminal or port, and they might be willing to take your shipment along for a nominal fee. This could save you the time, hassle, and cost of negotiating a dedicated pickup with a trucking company in a foreign city.

Work closely with your freight forwarder to price out a couple of options, and you’ll have all the information you need to pick the right Incoterm.

According to the ICC, buyers and sellers certainly could use Incoterms rules within their contracts. However, on domestic transactions, you may more commonly see terms from the Uniform Commercial Code (UCC).

Understanding Incoterms to Negotiate with Confidence

With a strong understanding of the Incoterms rules, you’ll find it easy to speak the language of international commerce. Those terms that once sounded like gibberish will become familiar, and your confidence in navigating your contracts will grow. Most importantly, with a strong understanding of the Incoterms in your agreements, you’ll be positioned to negotiate the best deal for your business and its bottom line.

Need some help estimating shipping costs, duties, and more? With decades of experience under our belts, we’re well-equipped to answer any questions you have. Simply reach out to us and we’ll help you price out your next shipment from origin to destination.

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