Terms of Trade: Uniform Commercial Code and INCOTERMS 2000—Part 2

11/5/06 6:00 PM | Catherine J. Petersen | Incoterms
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Before you can calculate a sales price and negotiate a sales contract, you must determine what responsibilities and expenses are assigned to the seller and the buyer. This includes transporting and insuring merchandise from the time it leaves your plant or warehouse to the time it arrives at your purchaser's premises.

Business_People_in_front_of_GlobeThis is the second in a series of articles on the Uniform Commercial Code, Article 2 and INCOTERMS 2000. The goal of this series of articles is to provide a basic understanding and working knowledge of what are known as terms of sale for international transactions. The Uniform Commercial Code, Article 2 defines the terms that have been adopted for use in the USA. INCOTERMS 2000 defines for the seller and the buyer:

  • When RISK Transfers?
  • Who Pays which COSTS?
  • Who is RESPONSIBLE for forwarder & carrier selection?
  • Who Prepares DOCUMENTS?

Before you can calculate a sales price and negotiate a sales contract, you must determine what responsibilities and expenses are assigned to the seller and the buyer. This includes transporting and insuring merchandise from the time it leaves your plant or warehouse to the time it arrives at your purchaser's premises.

There is a generally accepted, readily understandable nomenclature called INCOTERMS 2000 that relates the trade term to the various transportation options. The trade terms do not identify where the transfer of title or ownership will occur. A separate statement regarding transfer of title should be made in the body of the contract, the quote, pro forma invoice, and commercial invoice.

Domestic and international trade terms are governed by two separate sets of rules. As explained in my first article of this series, the domestic terms are defined by the Uniform Commercial Code Article 2 as adopted by each state, the National Motor Freight Classification, and industry practice.

The international terms are defined and published by the International Chamber of Commerce (ICC). In order to implement the use of the international terms, it is necessary to have in your sale and purchase contracts’ language such as “the terms of sale herein are INCOTERMS 2000” or “governed by INCOTERMS 2000”.

INCOTERMS 2000 provide a common reference to establish the point at which risk of loss due to loss or damage transfers from the buyer to the seller and the attendant transportation costs for which each party has responsibility. Knowledge of INCOTERMS 2000 is essential for exporters and importers to prepare contracts with terms appropriate for their customers and to make sure those contractual terms are properly fulfilled.

INCOTERMS 2000 continue the tradition of establishing a relationship between the seller and buyer regarding the location where the seller will deliver the goods into the hands of the buyer for export. Each term is followed by the appropriate location. For example, the contract for goods sold Ex Works would state “EXW [seller’s facility, city, state, country],” while the contract for goods sold Free Alongside Ship would state “FAS [named port of shipment, state, country]”.

The 13 three-letter abbreviations would be used in place of domestic terms for sales outside of the United States. These 13 terms do not require the addition of a statement such as “Prepaid & Add” or “Freight Allowed” or “Freight Collect.”

As soon as a seller places the phrase “ExW Plant, Houston, TX USA - INCOTERMS 2000” on their quote, pro forma and commercial invoice, both parties know that the inland or air or ocean freight are collect and freight forwarding fees and customs clearance at destination are for the account of the buyer. It is international shorthand defined by the ICC and updated every ten years.

INCOTERMS are informally separated into four different groups (E, F, C and D), which increasingly shift the level of responsibility for transportation from the buyer to the seller.

Under Group E, the seller is required to make the goods available at its own facilities to the buyer. Once the seller has done this, the buyer is then responsible for the shipment.

The Group F terms require the seller to deliver the merchandise to the next carrier at the named facility, airport or port, where the buyer assumes responsibility for “main” or transnational carriage.

Group C places the responsibility for main carriage on the seller, while under Group D the seller is responsible for transporting the goods to the country of importation and incurring risk to destination.

These relative responsibilities divide the costs of arranging transportation, and in some cases insurance between the parties. It also divides the risk of loss between them. INCOTERMS are not shipping terms, instead they are part of the sales contract and help the seller and buyer define the roles and the costs that each will have in the transaction.

The choice of terms appropriate to your transaction will depend on a number of factors, such as:

  1. Does your buyer have facilities in the United States to take possession of the goods and arrange transportation? If so, Group E or Group F may be appropriate, because then the buyer can readily arrange carriage.
  2. Does your company regularly ship under Group F, and receive inland freight rate discounts for truck or rail transportation to the port of loading? In that case, you probably could arrange transportation from your facility to the port more cheaply than the buyer and thereby lower the overall cost of the transaction.
  3. Is your buyer new to international trade, without knowledge of how to arrange transportation? In that case, Group C or, perhaps, Group D would be appropriate, because your customer has neither the experience nor the contacts to arrange export clearance and transportation.

It often depends on the volume of shipments that the buyer or seller controls in a year that will determine who is able to obtain a cost advantage when negotiating with air or ocean carriers or consolidators. There may not be any cost advantage for one or the other, but by utilizing a quote prepared with costs itemized by INCOTERMS, the seller and the buyer are able to make that determination.

The following table provides a thumbnail sketch of the terms; it is critical to the complete understanding of INCOTERMS to refer back to the ICC’s publications.

INCOTERMS 2000, a Thumbnail Sketch
 

GROUP

TERM

RISK

CODE

MODE OF TRANSPORT

GROUP E

Main Carriage:

“Freight Collect”

Ex Works

 

Risk Transfers when shipper makes goods available to buyer at seller's facility.

EXW

Any mode:

Air, Ocean, Surface such as Rail or Motor Carrier

         

 

GROUP F

Main Carriage:

“Freight Collect”

Free Alongside Ship

Risk Transfers to Buyer upon Delivery Alongside Vessel.

FAS

Vessel:

Ocean port to port

Free On Board

Risk Transfers to Buyer upon Crossing Ship’s Rail.

FOB

Vessel:

Ocean port to port

Free Carrier At

Risk Transfers to Buyer upon Delivery as agreed by seller & buyer.

FCA

Any mode:

Air, Ocean, Surface

         

 

GROUP C

Main Carriage:

“Freight Prepaid”
or
 “Freight Paid”

Cost & Freight

Risk Transfers to Buyer upon Crossing Ship’s Rail.

CFR

Vessel:

Ocean port to port

Cost, Insurance &  Freight

Risk Transfers to Buyer upon Crossing Ship’s Rail.

CIF

Vessel:

Ocean port to port

Carriage Paid To

Risk Transfers to Buyer upon Delivery to the first carrier.

CPT

Any mode:

Air, Ocean, Surface

Carriage & Insurance Paid To

Risk Transfers to Buyer upon Delivery to the first carrier.

CIP

Any mode:

Air, Ocean, Surface

         

GROUP D

Main Carriage:

“Freight Prepaid”
or
“Freight Paid”

&

Exporter Promises a Delivery date.

 

Delivered at Frontier

Risk transfers on arrival at the named place at the frontier on the date or in the timeframe agreed, consistent with delivering carrier practice & buyer/seller agreement.

DAF

Any mode:

As long as delivery will be made at a land port, mainly truck or rail.

Delivered Ex Ship

Risk transfers at named destination onboard vessel.

DES

Vessel:

Ocean port to port

Delivered Ex Quay

Risk transfers at named destination on the pier.

DEQ

Vessel:

Ocean port to port

Delivered Duty Unpaid

Risk transfers at named destination consistent with delivering carrier practices & buyer/seller agreement.

DDU

Any mode:

Air, Ocean, Surface

Delivered Duty Paid

Risk transfers at named destination consistent with delivering carrier practices & buyer/seller agreement

DDP

Any mode:

Air, Ocean, Surface