What are Incoterms and their importance in international trade?

How do incoterms work?

Incoterms (International Commercial Terms) are a set of rules that define the responsibilities of buyers and sellers in the process of delivering goods in international transactions and are updated periodically to reflect current commercial practices: 

Definition of responsibilities

The terms of trade determine who is responsible for every aspect of the shipping process, from packaging and transportation to insurance and customs clearance. This includes:

1. Loading and unloading:

• Seller: in terms such as FCA (Free Carrier) or FOB (Free On Board), the seller is responsible for loading the goods on the initial transport.
• Buyer: in terms such as DAP (Delivered at Place) or DDP (Delivered Duty Paid), the buyer is responsible for unloading the goods at the final destination.

2. Transportation:

• Seller: in terms such as CFR (Cost and Freight) or CIF (Cost, Insurance, and Freight), the seller is responsible for transportation costs to the port of destination.
• Buyer: in terms such as EXW (Ex Works), the buyer is responsible for all transportation costs from the seller’s premises.

3. Insurance:

• Seller: on terms such as CIF, the seller must arrange and pay for transportation insurance to the port of destination.
• Buyer: in terms such as FOB, the buyer is responsible for arranging and paying for insurance.

4. Customs clearance:

• Seller: in terms such as DDP, the seller is responsible for all customs formalities and costs, including duties and taxes, to the final destination.
• Buyer: in terms such as EXW, the buyer is responsible for all customs formalities and costs from the point of origin.

Use in contracts

It is essential to include an Incoterm in the sales contract to avoid misunderstandings and disputes about who is responsible for the different aspects of the shipment of the goods:

Incoterm + specific place: e.g. “FOB Port of Miami”. In addition, choosing the right Incoterm is crucial to ensure that both parties understand and accept their responsibilities. This facilitates a more efficient logistics operation and avoids unexpected additional costs. Some considerations for choosing the right Incoterm include:

• Type of goods: some terms are more suitable for certain types of products.
• Mode of transport: some specific Incoterms are applicable only to sea or air transport.
• Risk and cost preferences: determine who can best manage the risks and costs associated with transportation.

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Why are commercial terms important?

Risk reduction

They help reduce the risks associated with international transactions by clearly defining the responsibilities of each party, minimizing potential misunderstandings and disputes.

Standardization

International business practices are standardized, providing a common language for all players in global trade. This facilitates communication and negotiation between companies from different countries and cultures.

Efficiency in logistics planning

By knowing the responsibilities and costs in advance, both buyer and seller can arrange transportation, insurance and customs clearance more efficiently.

International trade facilitation

Terms of trade are especially important for small and medium-sized companies looking to expand into international markets, as it reduces the barriers and complexity associated with global trade.

Adaptability and upgradeability

Incoterms are periodically reviewed and updated by the International Chamber of Commerce (ICC) to reflect current trends and practices in international trade. This ensures that they remain relevant and useful in an ever-changing trade environment.