Incoterms 101: A Simple Incoterms Guide

If you’re involved in international trade, you’ve likely heard of “Incoterms.” But what exactly are they, and why do they matter? This Incoterms Guide will break down the essentials. Incoterms, short for International Commercial Terms, are standardized rules established by the International Chamber of Commerce (ICC) that define the responsibilities of buyers and sellers in global trade. These rules determine who is responsible for shipping, insurance, customs duties, and risk at each stage of the supply chain. 

Think of Incoterms as the “rules of the road” for global shipping. Without them, every buyer and seller would have to negotiate terms from scratch, leading to confusion, inefficiencies, and potential financial losses. A clear, standardized Incoterms Guide system allows for smoother transactions and minimizes disputes. 

Imagine ordering a package online. Some retailers offer “free shipping,” while others make you pay extra for express delivery. Some require you to pick up your order in-store. Incoterms work in a similar way, providing a flexible framework to define who is responsible for costs and logistics when moving goods across borders.

This Incoterms Guide will go a little beyond defining “What are Incoterms?” to give beginners a simple explanation of Incoterms, how they work, and the various options trade partners have to structure the shipping and logistics aspects of purchase agreements.

The Purpose of Incoterms: Avoiding Misunderstandings in Global Trade

Imagine you run a business selling handmade furniture. You agree to ship a large order overseas. Without Incoterms, you and the buyer might assume different responsibilities for shipping costs, customs clearance, and insurance. If something goes wrong, like damage in transit, you could face unexpected costs or delays, and the business relationship could be harmed from each side pointing fingers at the other over who’s responsible. Incoterms prevent these misunderstandings by setting clear expectations upfront. Incoterms set clear guidelines on: 

• Who arranges transportation and pays for shipping 

• Who is responsible for cargo insurance

• Who handles customs duties and paperwork 

• Who takes on risk at each stage of the journey 

The Simple Idea Behind Selecting the Right Incoterm for Your Business

When you purchase goods internationally, you and the seller must agree on one of 11 terms of purchase (7 if shipping via air). So, it’s important to understand the implications of each term. But don’t be intimidated by the details or the acronyms. Each Incoterm represents a point on a continuum. Some Incoterms put more on the buyer to arrange and pay for transportation and related costs; some require more from the seller; some represent a fairly equal sharing of responsibilities.  

Your choice of Incoterm comes down to deciding what degree of involvement and control you want during the international shipping process. Let’s explain this with a simple example. 

Imagine you are buying a crate of apples from an orchard. You have several options for how to get them: 

• You could drive to the orchard and pick them up yourself and the orchard owner does nothing beyond making the apples available. You, as the buyer, will handle the transportation and costs from that point forward. And you’ll likely buy the apples at a cheaper price because the farmer doesn’t need to recoup any costs for transportation. (This option is similar to the ExWorks, EXW, Incoterm. More on that later.) 
  
• You could meet the seller halfway at a farmers’ market. The farmer transports the apples to this convenient location and, from there, you take over responsibility. In this way, there’s an equal sharing of responsibilities along the supply chain. (This option is similar to the Free Carrier, FCA, Incoterm.)
  
  
• You could have the seller deliver the crate of apples to your doorstep. Under this approach, the farmer would manage the entire process through to final delivery to your door, covering all transportation costs. You’ll pay a little more for your apples, but if you’re busy and don’t have the resources to manage the transportation details, it might be worth it. (This option is similar to the Deliver Duty Paid, DDP, Incoterm.) 

To protect the apples if they get dropped, you as the buyer would pay all insurance for the farm pick up; the farmer would pay all insurance for the house delivery; and you’ll each buy insurance to cover your individual trips to and from the Farmer’s Market. That’s how risk is handled. 

Our apple example doesn’t cover every scenario of an actual international transaction, but the principle is the same as with Incoterms – each option has different levels of responsibility, cost, and risk. You just need to decide what’s right for your business.

The 11 Incoterms Simplified

Let’s continue our Incoterms Guide by diving into some details. There are 11 shipping Incoterms, divided into two main categories: those that apply to any mode of transport and those specifically for sea and inland waterway transport. 

Incoterms for Any Mode of Transport:

1. EXW (Ex Works): The buyer arranges and pays for all transportation, customs-related fees and insurance at origin and destination. The seller’s responsibility ends at the factory door. This is ideal for buyers who want to minimize product purchase costs and maintain full control over shipping.
   
   
2. FCA (Free Carrier): The seller delivers goods to the carrier, or another person nominated by the buyer at the seller’s premises, or another named place at origin. The buyer assumes risk at that point and handles freight and all additional charges. FCA works well for buyers who believe they can arrange ocean carriage at a better price than the seller can quote.
    
3. CPT (Carriage Paid To): The seller selects the carrier and pays for transport to the agreed destination at origin. Risk transfers to the buyer once the goods are handed over to the first carrier. CPT works for buyers that don’t want full control over transportation and where the seller may have more knowledge and buying power with transportation in the origin country.
4. CIP (Carriage and Insurance Paid To): The seller covers transport and insurance to the destination, but risk transfers to the buyer once the goods are handed over to the first carrier. This term is essentially the same as CPT, with the exception of the seller insuring the cargo. The buyer should check if the seller’s insurance coverage is sufficient. CIP works best for buyers that don’t have extensive international shipping experience and want the seller to arrange transportation and insurance for the main carriage.
5. DAP (Delivered at Place): The seller arranges delivery to the agreed location at the destination, but the buyer manages the import clearance process, pays charges such as import duties, VAT, and brokerage fees, and handles onward transportation. DAP works best when the buyer has the expertise to handle logistics and customs clearance details at destination but wants the seller to arrange international transportation.
6. DPU (Delivered at Place Unloaded): The seller delivers and unloads the goods at an agreed place in the destination country. However, the buyer is responsible for customs clearance and any import duties. This term was formerly referred to as DAT (Delivered at Terminal). DPU is best for buyers with expertise in customs clearance and local transportation at destination, but prefer not to unload the cargo. One example where DPU is advantageous is when a single container holds goods for several buyers, allowing the seller to unload and distribute the goods to each different consignee.
7. DDP (Delivered Duty Paid): The seller handles all transportation management and cost, from door to door. DDP is ideal for buyers who lack logistics expertise and resources and want minimal involvement in the shipping process.
   
   NOTE: DDP terms are challenging for sellers that ship to multiple countries with different import regulations.
   
   

   Incoterms for Sea and Inland Waterway Transport:
   

8. FAS (Free Alongside Ship): The seller delivers goods next to the vessel nominated by the buyer at origin. Once this happens, the buyer assumes all risk and manages and pays for the rest of the shipping process.  FAS is best for buyers that want to maintain responsibility for loading the vessel and managing transportation from the origin port onwards.
   
9. FOB (Free on Board): The seller is responsible for transporting cargo to the port and loading it onto the vessel, as well as the costs of export duties, taxes and customs clearance at origin. The buyer chooses the carrier and assumes all costs and risks from the moment the goods are on board.
   
10. CFR (Cost and Freight): The seller is responsible for transportation and all costs from the factory to the destination port.  With CFR, risk transfers to the buyer once the goods are loaded onto the ship, even though the seller is responsible for international shipping costs. Insurance is not included, so the buyer should arrange coverage. CFR is best for buyers who don’t want to be involved freight shipment prior to when the goods arrive at the destination port.
11. CIF (Cost, Insurance, and Freight): The seller pays for transport and insurance to the destination port, but risk transfers to the buyer once the goods are loaded onto the ship. Buyers should confirm the insurance terms meet their needs. CIF is commonly used for large deliveries, including oversized goods, that are shipped by sea.

General Incoterm Guidance

Choosing the right Incoterm depends on factors like cost, risk, and control. If you’re looking for Incoterms made easy, here’s a simplified Incoterms framework that might help: 

• If you want full control over shipping and customs: Choose EXW or FCA. 

• If you want the seller to handle most of the logistics: Choose CIP, CIF, or DDP. 

• If you want a balance of cost and control: Choose FOB or DAP.

Common Mistakes Beginners Make When Choosing Incoterms

Many new importers and exporters assume Incoterms cover aspects of the purchase transaction that they don’t. Here are a few common mistakes: 

1. Thinking Incoterms dictate payment terms. They do not specify when or how payments should be made.
2. Assuming Incoterms determine when ownership transfers. They only outline cost and risk responsibilities, not legal ownership.
   
3. Overlooking customs duties and taxes. Some Incoterms leave these responsibilities unclear, leading to unexpected charges.
   
4. Ignoring insurance obligations. Some terms (like CIF) require insurance, but others do not. Make sure you’re covered.
   
5. Failing to specify precise delivery locations. Saying “DAP New York” is too vague ─ be specific, like DAP 123 Warehouse, Brooklyn, NY. Insurance companies may accept or deny a claim based on the Incoterm and where and when loss or damage occurred.

Responsibility for Specific Tasks Under Different Incoterms

To this point, our Incoterms Guide has focused on defining Incoterms and which might be best for your specific situation. But if your questions are more granular and you want to know what party is responsible for specific tasks in different Incoterms, the chart below could be a helpful resource that can save you time.   

Leverage Incoterms to Your Advantage

Understanding Incoterms isn’t just about avoiding mistakes ─ it’s about making smarter business decisions. The right Incoterm can help you minimize costs, control risks, and ensure smoother international shipping and logistics. We hope this Incoterms Guide helps.  

For businesses looking to optimize international shipping, Dimerco offers expertise in navigating Incoterms and global shipping. Whether you’re new to Incoterms or looking to refine your approach, our team can help you choose the best purchase terms for your business. 

Contact one of our specialists today to learn how to simplify your global trade operations.