COMPARATIVE STUDY OF VARIOUS INTERNATIONAL COMMERCIAL TERMS

(INCOTERMS) USED IN THE SALE - PURCHASE CONTRACTS

Fahad Mahmud Mirza

Abstract – INCOTERMS (International Commercial Terms) are the Trade terms, published by the International Chamber of Commerce (ICC). These terms are commonly used in international contracts and are of the principle to lay down the rules to characterize the role and the compulsions (both financial and legal responsibilities) between the Sellers and the Buyers, involved in an international commercial transaction involving carriage of merchandise, globally from one place to another. The paper discusses the proportional responsibilities and liable obligations on the Seller and the Buyer under INCOTERMS groups and statements, and how effective the terms can play their role on making the trade communication of legalities easier.

I. INTRODUCTION

The economic market and trade traffic of this century beyond doubt consists of single universal market.  The Buyers and Sellers most of the times find themselves on different continents in different parts of the world, they communicate by having a uniform and homogeneous set of trading, chiefly known as International Commercial Terms (INCOTERMS) to help understand and route properly through international transactions and also clarify each of the Buyer’s and Seller’s role in this supply chain of trade and transactions.

INCOTERMS are a series of various international sales terms, which were first, published by International Chamber of Commerce (ICC) back in 1936, and then in the present dates of 2000, 2009 and now 2010. In the early 1900’s, many of the international traders, who were situated in diverse regions of the world, devised a set of short abbreviations used for certain frequently practiced trading terms.  On the other hand, due to disparity in culture, associations, language and syntax, knowledge and experience, translations and linguistics, these trading terms had dissimilar meanings for these diverse global

members of trade.  The rise in confusion and common errors became a consistent stamp and a constant risk in international trading and shipping.  For that reason, in order to encourage consistency and eliminate confusion, the International Chamber of Commerce (ICC) in 1936 developed one standard and homogeneous set of IN-(International)-CO-(Commercial)-TERMS for the traders worldwide to accept and practice.  Since then, these INCOTERMS have played a key role in global business of exchange, and they specifically address certain key responsibilities and compulsions, helping institute momentous and considerable “markers” along the chain of the micro-logistics mechanism [2]. 

There basic use is to define the relationship between the buyer and the seller, regarding the mode of delivery and to justify the member who is supposed to organize for customer clearances and licenses. Along with the passage of title, these terms are used to illuminate as either who has to obtain insurance of the goods and merchandise during the transport, generally known as the transfer of risks and insurance responsibilities. From the delivery terms to the justified delivery achievement and how the costs will be allocated among the parties are all covered in these sets INCOTERMS [1].

II. INCOTERMS GROUPS AND UTILITIES

There are a total of 13 International Commercial Terms (INCOTERMS), which are categorized to four major groups in order of their utility and comprehension [3]:

(i) Group – E (Origins Group)(ii) Group – F (Carriage NOT PAID by the Seller)

(iii) Group – C (Carriage PAID by the Seller)(iv) Group – D (Arrival at the Stated Destination)

From the warehouse to the destination of the delivery, there are almost 12 milestones or checkpoints in the transport pattern [6]. For the comprehension of the merchandise transport track, the milestones (in order of the precedence) are: (1) Warehouse storage at origin (2) Warehouse labor at origin (3) Export packing (4) Loading at origin (5) Inland freight (6) Port receiving charges (7) Forwarders fee (8) Loading on ocean carrier (9) Ocean/Air freight chargers (10) Chargers at foreign shipping-port or the airport (11) Customs, taxes and duties abroad, and finally (12) Delivery charges to final destination

We may use these checkpoints to analyze the maximum level of responsibilities for Buyer and Seller in the respective groups, to make the understanding and comprehension of the responsibilities much easier. These terms re applicable for tangible goods only, are only valid if they have been agreed upon on clearly contractual terms, and have been named in purchase agreements, general purchase and sale conditions, orders, order confirmations etc., or included in a separate agreement.

A. Group – E

The letter “E” is short for Ex-Works (Ex means “from” and Works means “factory or warehouse”), where a named place for shipment is available to the Buyer, not the Seller. And the Seller will not contract for any transportation. The abbreviation for this group is EXW and an added location name is tagged with it, for example, EXW Qasim Port.

The key characteristic of this group is that the Seller represents to make the goods available at his own property, or his site, to the Buyer.  Once the Buyer picks up the goods, the Seller’s duties and obligations are completed and fulfilled.  Obviously, this group forces the condition where the Seller has very few obligations and has an extremely low level risk of losses and the title is transferred almost instantaneously in the supply-chain network.  Almost from the beginning, it is the Buyer who ultimately bears the risk of losses and has to cover and tolerate with all the hazards and hurdles of the

complete transport. Some manufacturers also use the term Ex-Factory, which is as same as Ex-Works.

Using the checkpoints above, it is easier to understand now that the Seller is responsible from Checkpoint – 1 to Checkpoint – 3, and the Buyer is responsible from Checkpoint – 4 to Checkpoint – 12. In some practices, it is common that the Seller loads the goods on truck or the container without charging the loading fees; Checkpoint – 4.

B. Group – F

The letter “F” is short for the word Free, and this group includes terms mentioned here in order of precedence and responsibilities on Seller,

(i) FCA (Free Carrier)(ii) FAS (Free Alongside Ship) (ii) FOB (Free On-Board)

The fundamental characteristics of this group are that Buyer and Seller have agreed that the Seller is generally responsible to deliver the commodities or goods to a carrier or location designated by the Buyer.  Again, once the Seller has effectuated the delivery to the specified location by the Buyer, the Seller’s responsibilities tend to cease and the Buyer’s obligations tend to begin.

B. I. FCA (Free Carrier)

The FCA (Free Carrier) is added with the name of point of departure or loading with it, for example, FCA Lahore. Generally, under this term, the delivery of goods is conducted on a truck, a rail-car or container at the specified point of departure, which are usually the Seller's own premises, or a designated train station or even a named cargo terminal or into the custody of the carrier, all at the Seller's expense. Asides, the point at origin may or may not be a customs clearance center. Buyer is responsible for the main carriage or freight, the freight insurance and other costs and risks associated. Some manufacturers also use the terms FOT (Free On-Truck) and FOR (Free On-Rail).

The FCA term is further divided in to two types; one is the FCA Seller’s Premises, where the Seller is responsible only for loading the goods and not responsible for inland freight. This carries the responsibilities of Seller from Checkpoint – 1 to Checkpoint – 4 only, and the Buyer has obligations from Checkpoint – 5 to Checkpoint – 12. The second FCA term is FCA Named Place (International Carrier) where the Seller is responsible for the Inland Freight. This carries the

responsibilities of Seller from Checkpoint – 1 to Checkpoint – 5, and the Buyer’s obligations from Checkpoint – 6 to Checkpoint – 12.B. II. FAS (Free Alongside Ship)

The FAS (Free Alongside Ship) is added with the named port of origin, for example, FAS Karachi. This term is popular for the ‘break-bulk shipments’ and with the importing countries using their own vessels. The FAS term requires the Seller to clear the goods for export, which is a turnaround or a reversal from previous practices mentioned here. Goods are placed in the dock shack or at the side of the ship, on the dock or lighter, within the reach of its loading equipment so that they can be loaded aboard the ship, all at the Seller's expense. Buyer is responsible for the loading fee, main freight and shipment charges, cargo and goods insurance, and all other costs and concerning risks associated.

Accordingly to the INCOTERMS 2000, the Seller was responsible from the Checkpoint – 1 to Checkpoint – 6, the Port Receiving Charges, or Terminal Charges [5]. Recently, in INCOTERMS 2010, the Seller is responsible from the Checkpoint – 1 to Checkpoint – 7, up till the forwarder’s fee, which was the obligation for the buyer in INCOTERMS 2010 [6]. Now the Buyer has obligations from Checkpoint – 8 to Checkpoint – 12. The Delivery is accomplished once the goods are handed over to the Buyer’s Forwarder for insurance and transportation.

B. III. FOB (Free On-Board)

The FOB (Free On-Board) is added with the named port of origin, the loading container or vessel, at the Seller’s expense, for example FOB Singapore. Under the rules of INCOTERMS 1990 onwards, the FOB term is specifically used for ocean and in-land waterway transportation of goods and products, and the Seller uses his freight forwarder to move the commodities to the port of designated port of origin.

Although the rule is set that FOB be used for waterways always and only, many importers and exporters still use the FOB term in case of air freights as well. North American exporters and importers have developed some new functions, such as dealing on the open account and consignment basis, using the shipping terms FOB Origin and FOB Destination [4]. The term FOB Origin coins that the Buyer is responsible for the freight and other costs plus risks. And the FOB Destination defines that the Seller is accountable for freight and other costs and risks. These terms are not the part of

INCOTERMS and should always be avoided in international trades.

Accordingly to the INCOTERMS 2000, the Seller had responsibilities from Checkpoint – 1 to Checkpoint – 6, and also for Checkpoint – 8: Loading on the Ocean Carrier, and the Buyer had responsibilities of Checkpoint – 7: Forwarders fee and then from Checkpoint – 9 to Checkpoint – 12. Then in INCOTERMS 2010, the Seller now has responsibilities from Checkpoint – 1 to Checkpoint – 8, including the Checkpoint – 7: Forwarder’s fee and the Buyer’s obligations start from Checkpoint – 9 to Checkpoint – 12.

C. Group – C

The letter “C” is short for the word Cost, and this group includes terms here in order of precedence and responsibilities on Seller,

(i) CFR (Cost & Freight)(ii) CIF (Cost Insurance & Freight)(iii) CPT (Carriage Paid To…)(iv) CIP (Carriage & Insurance Paid To…)

The essential characteristics of this grouping are that the Seller is obligated for contracting and paying for the carrying and moving of goods but has no obligation to bear with additional costs nor has to bear with any sort of risk associated to losses, once the goods have been shipped.

C. I. CFR (Cost & Freight)

The CFR (Cost & Freight) is added with the named port of destination, at the Seller’s expense, for example CFR Karachi. Under the rules of INCOTERMS 1990, the term is chiefly used for ocean freights only. But still, many practice this term for air cargo trade as well.

This term refers towards two distinct and separate responsibilities; first one is dealing with the actual cost of merchandise; C, and the other one refers to the freight charges to a predetermined destination point; F. It is the Seller’s prime responsibility under this term to acquire the goods from their door to the port of target, and delivery is completed at this time. It is then the Buyer's responsibility to cover insurance from the port of origin or port of shipment till his very own door. Provided that the Seller is responsible for transportation, the Seller also chooses the forwarder under the rules.

In this term of CFR, the Seller has responsibilities from Checkpoint – 1 to Checkpoint – 9, and the Buyer has obligations from Checkpoint – 10 to Checkpoint – 12.

C. II. CIF (Cost Insurance & Freight)

The CIF (Cost Insurance & Freight) is added with the named port of destination at the Seller’s expense, for example, CIF Dubai. Under the rules of INCOTERMS 1990, the term is primarily dedicated for the use of ocean freight and trade, but as of like other terms, this term is also used for air freight purposes by many traders under the old mind-set. This term is arranged similar to the CFR as previously discussed, but instead of the Buyer insuring the products for the marine phase of the voyage, the Seller will assure the goods and products. With this understanding and agreement, the Seller usually chooses his own forwarder, and the delivery is accomplished at the port of destination.

In this term of CIF, the Seller has responsibilities from Checkpoint – 1 to Checkpoint – 9, and the Buyer has his obligations started from Checkpoint – 10 to Checkpoint – 12.

C. III. CPT (Carriage Paid To…)

The CPT (Carriage Paid To…) is added with named place of destination (discharge) at the Seller’s expense, for example CPT Manhattan. In CPT transactions, the Seller has the same obligations found with the term CIF, in addition that the Seller has to buy freight insurance, naming the Buyer as the insured while the goods are in transit.

The term of CPT is configured to adjust responsibilities of Seller from Checkpoint – 1 to the Checkpoint – 10, and the Buyer has obligations from Checkpoint – 11 to Checkpoint – 12.

C. IV. CIP (Carriage & Insurance Paid To…)

The CIP (Carriage & Insurance Paid To…) is added with the named place of destination at the Seller’s expense, for example CIP Los Angeles. This term is primarily used for multi-mode transport, because it relies on the carrier's insurance. The Seller is only required to purchase minimum coverage. When this particular agreement is in sight, the freight forwarders often act in consequence, as the carriers. The Buyer's insurance is effectual when the goods are turned over to the Forwarder.

The term of CIP covers the responsibilities of Seller from Checkpoint – 1 to the Checkpoint – 10, and the Buyer has obligations from Checkpoint – 11 to Checkpoint – 12. The Buyer has responsibilities for customs, duties and taxes and all the delivery charges at the final destination.D. Group – D

The letter “D” is short for the word Delivery/Delivered, and this group includes terms mentioned here in order of precedence and responsibilities on Seller;

(i) DAF (Delivery-At-Frontier)(ii) DES (Delivered Ex-Ship)(iii) DEQ (Delivered Ex-Quay)(iv) DDU (Delivered Duty Unpaid)(v) DDP (Delivered Duty Paid)

This grouping is exactly the opposite of the Group – E.  In other words, the Seller has all the obligations of costs, risks, insurance, duties etc. and must make the merchandise available at the named place of destination, which is usually named by the Buyer and may also be the Buyer’s factory.

D. I. DAF (Delivery-At-Frontier)

The DAF (Delivery-At-Frontier) is added with the specified named point at the border, all at the Seller’s expense, for example DAF Hong Kong. In this term, the Seller's responsibility is to employ a forwarder to take goods to a named border line, which is usually a border-crossing point, and clear them for export and the delivery occurs at that very time. The Buyer's responsibility is to arrange with their forwarder for the pickup of the goods after they are cleared for export, carry them across the border, clear them for importation and cause the delivery. In most cases, the buyer's forwarder handles the task of accepting the goods at the border across the foreign soil.

In this term, the Seller has his responsibilities from Checkpoint – 1 to Checkpoint – 10, and the Buyer has obligations from Checkpoint – 11 and Checkpoint – 12.

D.II. DES (Delivered Ex-Ship)

The DES (Delivered Ex-Ship) is added with the named port of destination at the Seller’s expense, for example DES Osaka. In this type of transaction, it is the Seller's responsibility to get the goods to the port of destination or to engage the forwarder to the move cargo to the port of the destination unclear. Any destination charges that occur after the ship is docked are the Buyer's responsibility.

In this term, the Seller has responsibilities from Checkpoint – 1 to Checkpoint – 9, and the Buyer has responsibilities from Checkpoint – 10 to Checkpoint – 12.

D. III. DEQ (Delivered Ex-Quay)

The DEQ (Delivered Ex-Quay) is added with the named port of destination at the Seller’s expense, for example DEQ Bangkok. In this type of transaction, the Buyer is responsible for duties and charges, and the Seller is responsible for delivering the goods to the quay (dock), wharf (landing stage) or port of destination. In a reversal of DES practice, the Buyer has to arrange for customs clearance also.

In this transaction, the Seller has responsibilities from Checkpoint – 1 to Checkpoint – 10, and the Buyer has obligations from Checkpoint – 11 to Checkpoint – 12.

D. IV. DDU (Delivered Duty Unpaid)

The DDU (Delivered Duty Unpaid) is added with the named point of destination, often the project site or the Buyer’s premises, at the Seller’s expense, for example DDU Vancouver. In this INCOTERM, the Seller is responsible for most of the expenses, which include the cargo insurance, import customs clearance, and payment of customs duties and taxes at the buyer's end. The seller may opt not to insure the goods at his own risks.

In this term, the Seller has responsibilities from Checkpoint – 1 to Checkpoint – 10 and also for Checkpoint – 12: Delivery Charges to Final Destination. The Buyer has only the responsibility for Checkpoint – 11: Customs, Duties and Taxes Abroad.

D. V. DDP (Delivered Duty Paid)

The DDP (Delivery Duty Paid) is added with the named point of destination, which is again the project site or Buyer’s premises, for example DDP Bujumbura. The DDP terms tend to be used in intermodal or courier-type shipments. The Seller is responsible for dealing with all the tasks involved in moving goods from the manufacturing plant to the Buyer’s door. It is the Seller's responsibility to insure the goods and absorb all costs and risks including the payment of duty and fees.

In this term of transaction, the Seller has all the responsibilities from Checkpoint – 1 to Checkpoint – 12.

III. INTERNATIONAL TERMS OF PAYMENT

There are four basic International Terms of Payment, based on the methods of payment, the time of payment and the risks associated with them to either Seller or the Buyer:

(i) Cash in Advance (No Risk to Seller)(ii) Letter of Credit (L/C)(iii) Drafts(iv) Open Account (No Risk to Buyer)Whenever International Terms of Payment are established, it is necessary to consult the personal financial advisor or the banker and shipper to determine and analyze the best, suitable option with benefits.

A. Cash in Advance

The Buyer pays the cash before the shipment is made, and goods are available to the Buyer after the payment. In this mode of payment, there is no risk associated to the Seller, but complete set of risks associated with the Buyer, because he relies on the Seller that the goods are shipped as exactly expected, ordered and quoted.

B. Letter of Credit (L/C)

Letters of Credit require total accuracy in conforming to terms, conditions, and documentation. There is a Confirmed and Unconfirmed Irrevocable Credit, types of L/C. In the Confirmed Irrevocable Credit, the payment is made after the shipment and the documents are then presented to the bank. The Seller must take serious note that the Commercial Invoice must match the L/C exactly; the dates must be carefully headed and, as it is mentioned in legal language, the "Stale" documents are intolerable for collection. The Confirmed Irrevocable Credit provides the seller a double assurance of payments, and he also depends on the terms of the letter of credit. This type assures the Buyer that the shipment is made, but he relies on exporter to ship goods as described in documents. The Decision Terms can be negotiated and acknowledged prior to making an L/C agreement, mitigating the Buyer's degree of risk. In the case of Unconfirmed Irrevocable Credit, the Seller has a single bank assurance of payment and remains dependent on overseas bank. It is recommended that the Seller should contact his banker to resolve whether the issuing bank has adequate assets, as much enough to cover the amount.

C. Drafts

A draft may perhaps be written with practically any term or condition agreeable to both the parties involved in merchandise. When determining the draft’s terms and conditions, it is necessary for both the parties to consult with their banker and freight forwarder to agree on the most advantageous means of doing trade in a specified country. A draft can be a collection tool used to barter possession and title to merchandise for payment. Seller is fundamentally drawing a check against the bank account of the Buyer. And it is necessary that the Buyer's bank must have a pre-approval, or must seek approval of the Buyer prior to honoring the check. There are two kinds of drafts; Sight Drafts and Time Drafts. In Sight Drafts, the payment is made to the Seller once the draft is presented to Buyer, and the Buyer receives his goods once he pays at the bank. For the Seller, if the draft is not privileged, then the goods must be returned or resold and the storage, handling, and arrival freight expenses may also be acquired. The Time Drafts are characterized so as that the payment is made to the Seller once the draft reaches its maturity.

D. Open Account

An open-account is usually agreed upon by an Invoice, by the Seller and the Buyer, and the shipment and goods are received by the Buyer before payment. This payment method can put the Seller in too deep risks as he has to completely rely on the Buyer to pay the account as per agreement. All terms the general of payment, including the extra-charges and terms should be mutually understood and agreed upon prior to an open-account initiation. It is important that the Seller must measure and confirm not only the Buyer's credit reliability but also the country's acclaim as well.

IV. DIFFERENCE OF THE CONTRACT AND THE INCOTERMS

The difference between the INCOTERMS and a contract is of high significance, as many may confuse these terms to be some sort of a contract. INCOTERMS are only a means of communication and a unit of conciliation between the two parties involved in the exchange, it is not a contract. To be even clearer, these terms do not compose a contract between the Buyer and the Seller. Even if there is a condition that the two parties have no contractual conformity between them, they can still jointly consent on INCOTERMS and these terms do not ascertain a legal binding between the two as a complete contract. Instead, the two parties have to set up a separate contract for the sale-purchase transaction between the two, and part of the obligations and understandings of those parties,

based upon this completely separate contract, are personified in INCOTERMS, forming the legal binding now.

In the case of dispute and conflict between the parties, the conventional courts always consider Sales Contract initially, if there is any available, and after that they consider the Course of Performance, the Course of Dealing and then the Industry Standards applicable. Some additional factors are also generally considered that either which person has the possession, whether the payment has been made or not and which INCOTERMS, among the set, have been utilized for trade. It is clear that INCOTERMS are not the contract and are not the legal definition and will never, on their own, define the intent of the parties. They neither define the contractual rights, nor the liabilities and/or obligations between the parties.

V. CONCLUSION

The major, and the only, purpose of INCOTERMS is to produce an internationally standardized set of regulations governing the understanding of the most commonly used contractual terms in overseas trade agreements and sales contracts of movable, tangible goods only. INCOTERMS do not specify the transport details regarding the transfer and delivery of the products, and most importantly, INCOTERMS are not liable to protect a party from his own risk of loss.

REFRENCES

[1]. Roth, William V. Jr. and Roth, William V. III, “INCOTERMS: Facilitating Trade in the Asian Pacific”, 1997, Journal of International Economic Law, University of Pennsylvania, Vol. – 8, No. – 3

[2]. Ramberg, Jan, “CISG and INCOTERMS 2000 in Connection with International Commercial Transactions”, 2008, Sharing International Commercial Law across National Boundaries, Simmons & Hills Publishing (2008), 394-403

[3]. UNDP Practice Guide, “Shipping and INCOTERMS”, 2008, UNDP Practice Series, United Nations Development Program (www.undp.org/procurement)

[4]. Export Department, “International Commercial Terms (INCOTERMS)”, Export 911 (www.export911.com)

[5]. IBT Guide, “INCOTERMS 2000 – Chart of Responsibility”, IBT Guide to INCOTERMS 2000, (www.i-b-t.net/incoterms)

[6]. SKYMART, “INCOTERMS 2010”, SKYMART WORLDWIDE (www.skymartworldwide.com)