Today supply chains stretch around the globe, and few supply chain can exist within a single country without selling or purchasing products or raw materials from other countries. In the course of international trade, compliance with international trade laws and cultural differences can lead to confusion when interpreting contractual terms and obligations.
One of these terms, free or freight on board, also has irony within its name. It is not free by any means, and failure to understand this term can lead to discrepancies when shipping products abroad and additional problems. If the responsible party does not accept liability, should damage or another event occur that could result in the filing of a claim. As a result, shippers need to understand this term, how it impacts responsibilities and obligations when transporting goods, and who is on the proverbial hook.
What Exactly Is Freight on Board?
Freight on board, also known as free on board, refers to a set of Incoterms that govern who owns and pays for a shipment when traveling overseas. Although its original definition was used exclusively for seafaring transport, modern use of the term can be applied to all shipment modes of transit. However, the interchanging use of free and freight can lead to some confusion, especially considering the abbreviation of the term, FOB.
Although the word free is used in the term, it does not negate the shipping cost for goods. It simply refers to who has the obligation and liability for a shipment while in transit. Originally published in the first set of Incoterms, by the International Chamber of Commerce (ICC), in 1936, Freight on Board has grown to become one of the most common commercial terms used in contracts for the cell and shipment of goods around the globe. When used in contracts, FOB also has a subset of terms, such as prepaid, collect and charged back.
Who Pays the Freight Cost for FOB?
Receivers may be under the assumption FOB implies shippers bear the responsibility of liability and payment. However, the use of the term also includes additional stipulations that allow for the determination of the responsible payer for freight costs, ownership of freight while in transit and liability.
Broadly, the use of FOB destination places ownership and assumption of risk on shippers while in transit. Freight on board origin places these responsibilities on receivers. In other words, the use of destination means shippers are responsible for a product until received at the destination. Similarly, origin means receivers take responsibility for the product when it is loaded at the point of origin.
Furthermore, an additional factor and stipulation determine who pays the freight cost at the time of shipping. This defining factor includes these terms:
- Freight collect.
- Freight prepaid.
- Freight collect and allowed.
- Freight prepaid and charged back.
The use of terms for defining FOB should be established within the freight invoice, bill of lading or other appropriate documentation.
What Do the Add-On Terms Really Mean?
Depending on the carrier used, additional stipulations may be listed following FOB. For example, the actual line item may be the location name of the origin instead of the actual word, origin. As a result, shippers and receivers need to know a shipment’s origin and destination before trying to interpret FOB stipulations. Some additional ways FOB add-ons are used include the following:
- FOB Destination, freight prepaid. This add-on means the shipper bears all responsibility for a shipment until it arrives at the destination. In addition, the shipper pays for the shipment, and the receiver is not responsible for the payment of any shipping costs.
- FOB Destination, freight collect. This term is comparable to freight prepaid, but the party receiving the shipment is responsible for paying for freight costs upon delivery. In other words, the receiver does not take ownership or liability for shipment until delivery.
- FOB Destination freight collect and allowed. This add-on is a blending of the aforementioned add-ons. The shipper owns and shares responsibility for freight until delivery, but the receiver deducts the freight charges. As a result, the upfront invoice will include charges the shipper originally paid.
- FOB Origin, Freight prepaid. Similar to FOB destination, freight prepaid, this term means the shipper pays the cost of shipping, but the receiver owns and assumes liability for products at the point of origin.
- FOB Origin, Freight Collect. Again, freight collection implies a receiver pays for freight, bears the cost, owns the freight, and assumes all necessary liability for the shipment.
- FOB Origin, Freight prepaid and charged back. Another blending of previous add-ons exists in this term. Rather than covering the cost of shipping, the shipper adds freight costs to the original invoice, but the receiver bears the cost due to it being added directly to the invoice. So, the receiver pays for shipping by paying the bill on a more expensive invoice. In addition, the receiver bears the cost, owns the product, and assumes all liability at the point of origin.
- FOB Destination, Freight prepaid and charged back. Similarly, this add-on involves the addition of the fee to the invoice by the shipper, and the receiver bears the cost. However, the shipper owns the freight and assumes liability on delivery.
Is There a Simpler Way to Handle FOB?
The use of Freight on board can seem complicated, but it is necessary to prevent language barriers and cultural differences from causing problems and legal issues when reviewing and paying freight costs and taking ownership for international shipments. For new shippers, understanding FOB can be even more complicated, and as a result, more shippers are choosing to outsource the entire process to third party logistics providers (3PLs). Of course, there are other Incoterms that exist, including their own set of definitions and implications, and all international shipments will likely use these terms in the documentation.
By working with an expert in Incoterms® 2010, like Cerasis, shippers and receivers alike can rest assured, the process will be handled according to law and within the ICC requirements. Since ownership and liability may also play into the payment of duties, taxes, and tariffs when crossing international borders, shippers must not assume someone else will always bear the burden of liability and cost for international shipments.