International trade is a complex web of regulations, agreements and logistics. For those whose businesses rely upon international trade two things are certain, (1) tariffs will impact your supply chain and operational costs and (2) which Incoterms are required by your contracts will greatly dictate the outcome of the tariffs. Understanding these each issue and how they interplay is essential for businesses to avoid costly mistakes, ensure smooth transactions and maintain compliance with global trade laws.
What are Incoterms?
Incoterms, short for International Commercial Terms, are a set of standardized trade terms published by the International Chamber of Commerce (ICC). First introduced in 1936 and updated periodically, Incoterms define the responsibilities of buyers and sellers in international transactions. They clarify who is responsible for shipping, insurance, documentation, customs clearance, other logistical aspects and tariffs.
Some of the most commonly used Incoterms include:
- EXW (Ex Works): The seller makes the goods available at their premises. The buyer bears all costs and risks involved in transporting the goods to their destination. This is the most favorable to Incoterm available to suppliers and sellers of goods and the least favorable to owners.
- FOB (Free On Board): The seller delivers the goods on board a vessel chosen by the buyer. The risk passes to the buyer once the goods are on the ship.
- CIF (Cost, Insurance and Freight): The seller pays for the cost, insurance and freight to bring the goods to the port of destination. The risk transfers to the buyer once the goods are loaded onto the vessel.
- DAP (Delivered at Place): The seller is responsible for delivering the goods to a named place, ready for unloading. The buyer handles import clearance and any applicable duties.
- DDP (Delivery Duty Paid): The maximum responsibility is placed upon the seller. Under DDP, the seller is responsible for delivering the goods to a named place in the buyer’s country, covering all costs and risks involved in bringing the goods to the destination. This includes export and import duties, taxes and customs clearance. In essence, the seller handles everything, and the buyer simply receives the goods at the agreed location.
Choosing the right Incoterm depending of where your business is situated in the supply chain is crucial. It affects the cost, risk and logistics of the transaction. Both parties should clearly agree on the Incoterm in their contract to avoid misunderstandings. Most importantly it is not something to be overlooked or otherwise treated as a secondary issue.
What are Tariffs?
Tariffs are taxes imposed by governments on imported or exported goods. They serve several purposes, such as protecting domestic industries, generating revenue, or retaliating against trade practices of other countries. Tariffs can be specific (a fixed fee per unit) or ad valorem (a percentage of the value of the goods). My colleague Patrick Kelly recently posted a great blog to the Texas Construction Law Blog providing analysis of the current tariffs impacting the construction industry, as well as more specifics on lumber tariffs.
As an illustration, if a country imposes a 10-percent tariff on imported steel, a shipment valued at $100,000 would incur a $10,000 tariff. These costs are typically paid by the importer, but they can affect the final price paid by consumers.
Tariffs can have significant impacts on international trade such as:
- Increased Costs: Tariffs raise the cost of imported goods, which can make them less competitive compared to domestic products.
- Supply Chain Adjustments: Companies may seek alternative suppliers or relocate production to avoid high tariffs.
- Trade Disputes: Tariffs can lead to trade wars, where countries impose retaliatory tariffs on each other’s goods.
The Relationship Between Incoterms and Tariffs
While Incoterms and tariffs are distinct concepts, they are closely related in practice. The chosen Incoterm determines who is responsible for customs clearance and payment of tariffs. For instance, under DDP (Delivered Duty Paid), the seller is responsible for all costs, including tariffs, until the goods reach the buyer. Under EXW (ExWorks), the buyer handles all import duties and tariffs.
Conclusion
Navigating the world of international trade requires a solid grasp of Incoterms and tariffs. By understanding these concepts, businesses can make informed decisions, negotiate better contracts and minimize risks. Whether you are a seasoned importer or new to global trade, staying up to date with the latest Incoterms and tariff regulations is essential for success in the global marketplace.
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