Incoterms for commercial contracts

Incoterms are regularly used in commercial contracts so businesses should make themselves aware of the changes and consider the impact on their contracts and operations.

What are Incoterms?

Incoterms are a set of 11 trade terms for use in business-to-business contracts for the sale and purchase of goods. They describe the obligations of the buyer and seller when risk transfers between the two, as well as which party is responsible for the costs associated with transport, unloading and related matters. They are divided into four rules for use when goods are transported by water and seven rules that can be used with any transport mode.

The terms vary from Ex-Works (EXW), where the seller's only obligation is to put the goods at the buyer's disposal; through to Delivered Duty Paid (DDP) where the seller must deliver the goods to the buyer including obtaining import clearance.

Incoterms are used within contracts, but are not a substitute for a contract of sale. They do not deal with things such as the passing of title, the quality of the goods or the price.

What has changed?

The layout of the 2020 Incoterms is quite different from the previous version, which came into force in 2010. However, in order to provide greater clarity and enhanced guidance, there are relatively few substantive changes.

The main changes to be aware of are:

• increase to the insurance obligations placed on the seller. For Carriage and Insurance Paid (CIP), the level of freight insurance provided for is now Institute Cargo Clause A, higher than the previous level Institute Cargo Clause C. For Cost Insurance and Freight (CIF), the level of freight insurance provided for has remained unchanged at Institute Cargo Clause C;
• an additional option is included to cater to where goods are sold 'free carrier' (FCA) for carriage by sea, and sellers or buyers - or a bank where a letter of credit is in place - want a bill of lading with an on-board notation;
• the rules now cover the situation where either the buyer or the seller transports the goods using their own vehicles, without engaging the services of a third party;
• the previous Delivered at Terminal (DAT) rules has been renamed Delivered at Place Unloaded (DPU);
• more details have been added allocating security-related obligations to the parties that were included in the 2010 Incoterms.

What should businesses do now?

The actions a business should take differ for new, existing and template contracts.

For existing contracts

The 2010 Incoterms continue in force, so there is no automatic need to amend all existing contracts that specifically refer to the previous version. These contracts will continue to be interpreted and applied in accordance with the 2010 Incoterms.

If existing contracts do not specifically reference the 2010 Incoterms – for example, they just state DDP - then there could be some uncertainty over which version of the Incoterms applies. Given that there are limited differences between the two versions, businesses may consider this risk minimal.

Where a business uses CIP and did not specifically reference the 2010 Incoterms, it should consider whether the change of insurance coverage is appropriate or whether contracts need to be amended. To identify relevant contracts, a business could consider using technology to scan its contract base and identify any on the CIP Incoterm.

For template contracts

Consider updating template contracts so that they refer to the more up to date 2020 Incoterms. A business should consider using the most up to date version as part of best practice.

The change in rules is also a good opportunity to check that where terms are used in the templates, they specifically refer to the 2020 Incoterms and, where appropriate, the relevant destination and place of delivery. This will avoid any confusion about the version that is being incorporated into the contract.

For new contracts

When entering into new contracts – for example, on the counterparties form – consider carefully the relevant Incoterm that is used and which version is used.

In particular, we recommend briefing and training teams reviewing and entering into contracts in order to ensure that they are aware of the differences and the importance of ensuring that the term and version selected meet the business objectives. This is particularly the case where the business uses the CIP Incoterm.

Should your business be using Incoterms?

If your business does not currently use Incoterms but decides that it now wishes to do so, they need to be carefully incorporated into contracts. Our tips are:

• Incoterms rules must be expressly identified in order for them to be incorporated into a contract. It should be made clear that the 2020 version is the version being incorporated so as to avoid the risk of arbitration or litigation being necessary to interpret the terms of the contract;
• the contract should clearly identify the destination and place of delivery in each case. Care should be taken in setting this as it will be the port for some Incoterms, and the final destination for others;
• where Incoterms are used, they must not conflict with any other provisions in the contract – for example, a separate clause on the transfer of risk – or any other ancillary documents surrounding the contract such as an insurance contract or letter of credit.