There’s a lot of abbreviated trade terms found in international shipping contracts that describe a lot of relevant matters like time and location of delivery, method of payment, transfer of ownership of goods, and who pays the freight charges and insurance.
The most common trade terms are incoterms (published by the International Chamber of Commerce) but companies that ship to the United States also have to comply with the Uniform Commercial Code.
Thus, it is important for both the consignor and consignee to define which terms would they use for the shipping contract.
And today, we’re going to discuss one of the most commonly used Incoterms in international shipping — FOB.
What does FOB mean?
FOB stands for “free on board” and it indicates who — the buyer or the seller — is liable for the cargo when in transit. It identifies who carries the risk if the shipment is destroyed or lost during shipping.
It also designates the party responsible for paying the freight costs and at what point the shipment transfers from the buyer to the seller.
How does FOB work?
FOB is used in four different ways in shipping documents, which are:
- FOB [shipping point], Freight Collect
- FOB [shipping point], Freight Prepaid
- FOB [destination], Freight Collect
- FOB [destination], Freight Prepaid
In order to understand what is the meaning of each FOB designation, we have to understand what is the difference between shipping point and destination as well as freight collect and freight prepaid.
Shipping point vs destination
The difference between shipping point and destination is at what point does the seller transfer ownership of the shipment to the buyer. By identifying who is responsible for the shipment at certain points of transit, both the buyer and seller avoid ambiguity in the shipping contract.
In shipping point, the buyer owns the goods when the carrier picks it up from the seller and signs the bill of lading. Once the goods are on board the ship, the buyer shoulders all the related transport costs as well as customs, taxes, and other fees. The seller then records a sale and isn’t responsible for the goods anymore during delivery.
On the other hand, destination means that the legal title of ownership is transferred when the shipment arrives at the buyer’s warehouse, office, or PO box. The seller is liable for all the costs until the goods arrive at the destination and only records a sale when the shipment is delivered to the buyer.
Freight collect vs freight prepaid
This determines who shoulders the shipping costs and ancillary charges that might incur along the way.
In freight collect, the buyer pays for the shipping charges and is also responsible for filing the insurance claim (just in case).
For freight prepaid, however, it is the seller who’s responsible for the freight charges and assumes the risk.
For example, a department store chain in the US buys the goods of a glassware manufacturer in China.
If the shipping contract uses the term “FOB shipping point”, the department store chain is responsible for any damage or loss during transit and shoulders the cost of insuring the shipment.
However, if the shipment is defined as “FOB destination”, the glassware manufacturer carries the risk for any damage or loss while the goods are shipped and is responsible for buying the insurance policy.
The importance of FOB
Shippers and carriers need to know FOB designations in case the shipment is damaged or lost because some receiving ports refuse delivery of damaged goods instead of accepting the shipment with a damage notation.
And for a shipment with FOB affixed with the point of origin, the buyer/consignee technically owns the shipment once it is on board the ship. If he refuses the delivery of the shipment, he has no legal reason to send it back to the seller/consignor and the return shipment could only incur more damage.
Other shipping terms and its definitions
There are other trade terms found in shipping contracts as well, which are:
Free Alongside Ship (FAS): the seller must deliver the shipment right next to a ship specified by the buyer so it is ready to be loaded on that ship. The buyer is liable once it is placed alongside the ship.
Free Carrier (FCA): the seller is obligated to transport the goods to a particular airport, railway terminal, or shipping port where the buyer will accept delivery.
Delivered Ex Ship (DES): the seller is required to deliver the shipment to an agreed port of arrival where the buyer will take delivery.
Ex Works (EXW): the seller must only get the shipment ready from its location and the buyer is wholly responsible for picking up the goods and delivering it to a particular location.
Cost and Freight (CFR): the seller is required to transport the shipment to a port of destination, pay for all the shipping costs, and provide the necessary documents for the buyer to take delivery.
Cost, insurance, freight (CIF): the seller assumes the shipping costs, insurance, and other freight charges while the buyer still pays for customs and other fees when the goods arrive at the port of destination.