What Are Incoterms And Why Do They Matter?

Incoterms rules are eleven internationally-recognised three-letter trade terms that are published by the International Chamber of Commerce. They are used in international and domestic sales contracts for the shipment and delivery of goods. They are used to define the responsibilities of buyer and sellers in a trade transaction; as well as clarify and define tasks, costs and risks in shipping, customs clearance, delivery and insurance. Referencing Incoterms correctly in a sales contract helps the parties to clearly understand their different roles and responsibilities in trade.

It is important to use the correct Incoterms in a sales agreement because the consequences of using them incorrectly can lead to unexpected costs, disputes over costs and risk allocation, legal misunderstandings, delays, and customs clearance problems. Therefore, it is important to use the correct Incoterms to prevent these from happening. We have outlined some things to keep in mind to help you to use the correct Incoterms so that you can avoid these unwanted consequences from using the incorrect terms.

Considerations to Make:

1. The Incoterms Must Be Matched Correctly To The Relevant Mode Of Transport

There are different rules applied to different forms of transport, and it is therefore important to know how a shipment will be transported. There are some Incoterms that refer to specific forms of transport and have their own rules, whereas there are others that will apply to all modes of transport. Knowing how a shipment will be transported will help in deciding what are the correct Incoterms to be used in an agreement, and will then mitigate the possibility of any problems such as unnecessary costs and exposure to risk in the process.

2. Know How Costs and Risks are Allocated between the Buyer and Seller

Incoterm rules are usually quite clear on how risks and costs are distributed between the buyer and seller, however, there are a few that leave room for disagreement if not properly clarified. It is important to initially clarify who is responsible for what costs (eg. freight, insurance, terminal fees, customs, etc) and risks in the shipment process between the buyer and the seller in order to state who has what obligations in these regards in the sales contract. The balance of these responsibilities between the two parties will help in choosing the correct Incoterms.

3. Always Specify the Incoterms Version

Incoterms are updated from time to time, and as a result there can be changes and variations between the terms in different versions of the Incoterms. Therefore, it is important to state the correct year or version of the Incoterms rules in the contract in order to prevent any confusion in the meaning of the terms.

4. Be Specific About The Geographic Origin And Destination

It is vital to be as specific as possible when detailing the origin and destination of a shipment. For example, you should name precise delivery locations (eg. specific port, terminal, warehouse), and not just the name of the city or area so that all parties know exactly where a shipment is going to and coming from. Being as specific as possible prevents confusion and added costs of logistics that may be incurred unnecessarily.

5. Understand The Parameters Of The Incoterms

It is important for all parties involved to understand what the Incoterms cover and what they do not. For example, they do describe obligations for risk transfer, cost allocation and insurance between the buyer and the seller, and they do NOT cover things such as certain aspects of the sales price, many legal and intellectual property matters, transfer of ownership, customs laws, etc.

6. Choose Terms That Suit Your Business Needs

It is necessary for both the buyer and the seller to understand the type of business, regulatory environments, and country practices for each other’s countries as this influences the selection of Incoterms used. It is important for both parties to understand these in order to fully know their responsibilities and how to conduct themselves in the transaction.

Conclusion

In conclusion, it is important to highlight that Incoterms are designed to facilitate trade and provide necessary parameters to clarify the different responsibilities between the seller and the buyer. When used correctly they can help clarify the roles of each party in the process of a shipment being made. But when used incorrectly it can result in a variety of unwanted consequences such as disputes, added costs, delays and legal misunderstandings. You can use these considerations that we have outlined here when writing up a sales contract to help smooth out the shipment process and reduce any unwanted consequences.