Incoterms decide who carries the risk, not who pays the freight

Incoterms are treated as shipping shorthand — three letters on a purchase order telling the freight desk who books what. They do allocate cost, and that is the half everybody reads. The consequential half is risk: the moment after which damaged, delayed, stolen or lost goods are the buyer's problem, whoever arranged the transport and whoever is paying for it.

There are eleven rules in Incoterms 2020, published by the International Chamber of Commerce, which has maintained them since 1936. Seven work for any mode of transport; four are for sea and inland waterway only. Choosing between them is a commercial decision with a legal consequence, and it is usually made by whoever types the purchase order.

What an Incoterm does, and what it does not

An Incoterm settles four things: who arranges carriage, who bears cost at each stage, where risk transfers from seller to buyer, and who handles export and import clearance.

It settles nothing about title — ownership passes according to the sale contract and the governing law, not according to three letters. It settles nothing about payment terms, nothing about remedies if the goods are defective, and nothing about jurisdiction. A contract that says CIF Felixstowe and little else has left most of the potential argument undefined.

The two families

• Any mode of transport: EXW, FCA, CPT, CIP, DAP, DPU, DDP. These work for containers, air, road, rail and multimodal movements.
• Sea and inland waterway only: FAS, FOB, CFR, CIF. These were written for goods handed over at the ship — bulk, break-bulk, project cargo.

The distinction is not decorative, and ignoring it produces the single most common error in international trade.

FOB is the wrong rule for a container

FOB appears on containerised purchase orders constantly. Under FOB, risk passes when the goods are loaded on board the vessel. In a container movement the seller has no access to that moment: the box is delivered to a terminal or container yard days before the vessel loads, and from that point it is handled by parties who have no relationship with anyone named in the sale contract.

That leaves a gap with a week or more in it. The seller has lost physical control and still carries the risk. The buyer is paying for a stage the seller remains liable for. If the container is damaged in the yard, or the sailing is rolled and the box sits, the contract points at a moment that has not yet happened.

FCA is the rule written for this. Risk passes when the goods are handed to the carrier at the named place — the terminal, the yard, the forwarder's warehouse — which is where it passes in reality. Incoterms 2020 also added a mechanism under FCA for the buyer to instruct the carrier to issue an on-board bill of lading to the seller, which removes the reason most people gave for using FOB in the first place: a letter of credit that demanded one.

The two terms to think twice about

EXW places risk with the buyer at the seller's premises, before the goods have moved a metre. It also makes the buyer responsible for export clearance in a country where it may have no legal presence and no ability to file. EXW is a sensible rule for a domestic collection and an awkward one for an international sale, however cheap the headline price looks.

DDP is the opposite extreme: the seller delivers cleared, duty paid, to the buyer's door. It is attractive to buyers for exactly the reason it is hazardous for sellers — it requires the seller to act as importer of record in a market where it may not be registered, may not be able to reclaim import VAT, and may not understand what it has agreed to carry.

What changed in 2020

• DAT became DPU — Delivered at Place Unloaded. The delivery point is no longer restricted to a terminal, and it remains the only rule requiring the seller to unload.
• CIP now requires broader insurance. The seller must cover to Institute Cargo Clauses (A), all risks, where CIF still requires only the minimum cover of Clauses (C).
• FCA gained the on-board bill of lading option described above.
• Security-related obligations were written out explicitly in the carriage and clearance articles, with the associated costs consolidated in one place so both parties can see what they are agreeing to.
• Own transport was recognised for the first time under FCA, DAP, DPU and DDP. The rules no longer assume that a third-party carrier is always involved.

Where the money is actually lost: insurance

The costliest failure is rarely choosing the wrong rule. It is assuming that somebody else's insurance covers a leg on which your own liability had already started.

Only two rules oblige the seller to insure at all: CIF and CIP. Under every other rule, insurance is whatever the parties arranged separately, and often nobody checked. A buyer on FOB who assumes the seller's policy runs to destination finds out at the point of claim that it ended at the ship's rail. A buyer on CIF who reads insured as covered finds out that Clauses (C) is a named-perils cover excluding a great deal of what actually happens to cargo.

What to write on the purchase order

1. 01The rule and the named place in full: FCA Ningbo container yard, Incoterms 2020 — not FCA China. The named place is where the rule takes effect, and a vague one is an argument waiting to happen.
2. 02The edition. The rules are revised roughly every decade and older editions stay in force wherever parties cite them.
3. 03Who insures, for how much, and on which clauses.
4. 04Who is importer of record and who is exporter of record.
5. 05What each side does if a sailing is rolled or a container is held for examination.

An Incoterm is three letters deciding who absorbs the cost of everything nobody planned for. That makes it a term of the contract rather than a detail of the logistics, and it belongs in the negotiation alongside the price and the date — not on the invoice after both have been agreed.