The Role of INCOTERMS in Customs Clearance

INCOTERMS and Customs Clearance Challenges

Under the customs procedures in all countries, the computation of customs value for duty & tax calculation is directly linked to INCOTERMS.  Hence, the correct use of INCOTERMS has a direct influence on the smooth clearance in exportation and importation.  In this article, a few possible customs challenges are discussed related to using different INCOTERMS in cross-border transactions:

Ex Works (EXW) 

This can be used for any mode of transport and can be used when there is more than one mode of transportation from the seller to the buyer. EXW places minimum responsibility on the seller. The seller has to make the goods available, packaged for export, at the agreed place between the seller and the buyer, which is usually the seller’s factory or warehouse. 

One major requirement of this approach is that buyers are fully responsible for all export and import procedures which cover regulatory obligations.  Some possible cross-border issues which may arise under this particular Incoterm are:

• Export customs clearance could be problematic when the buyer has no local presence (legal entity) at the export origin.
• Usually, EXW is used when the seller is unable to export due to a lack of export rights (either in customs clearance or trading in foreign exchange). If so, the buyer will need to engage a 3rd party broker to facilitate export clearance, incurring additional costs in the overall transaction.
• For some restricted commodities, even if the buyer establishes a local entity in the origin country, the company may not be able to obtain the export permit successfully, and this will jeopardize the shipping of the cargo.
• For exporters located in a Free Trade Zone (FTZ) or Export Processing Zone (EPZ), they need to provide evidence of export when goods are exported out of the country.  Since the buyer is responsible for export clearance but is in no way obligated to hand over that proof, the exporter may be liable for any regulatory non-compliance with additional local tax payment.

Whenever possible, the seller (exporter) must support directly in the export customs clearance in order to avoid some of these challenges outlined. This will prevent delays of the shipment, and help both the seller and buyer to achieve customs and trade compliance.

Delivered Duty Paid (DDP) 

Under the DDP Incoterm rules, the seller assumes all responsibilities and costs for the delivery of the goods to the named place of destination. The seller must pay for both export and import formalities, fees, duties and taxes.  This rule is commonly used in e-Commerce shipments since it offers some notable advantages. For one thing it provides seamless end-to-end online shopping experiences to the customers from the point of sale until ownership of the ordered goods is fulfilled. It is also an appropriate Incoterm for large wholesalers which may be more geared up for international trade and logistics with greater exposure in cross-border transactions, as compared to those less experienced e-Commerce retailers.

That said, the major challenge for using this rule in customs clearance is that DDP assigns maximum responsibility to the seller, including requirements for the application for any import permits and licenses, import declaration and the payment of any applicable duties and taxes in the destination country. It requires the seller to comply with legislation in countries where it may have no presence, and therefore possibly rely on 3rd party logistics providers for ensuring regulatory compliance.  Please also be aware that, if a 3rd party agent is used as Importer of Record (IOR) during importation, any duty drawback from local Customs office will be paid directly to the IOR, the seller may not be able to get back from the 3rd party agent.

In addition, during the online selling process, the seller has to estimate the amount of import duties and taxes to be applicable in the destination country, which may vary depending on the commodity, origin, value, and the regulations.  The estimation of the customs duties and taxes could be inaccurate making the sale less competitive or profitable.  Another issue is that the seller must deal with foreign exchange during import clearance, which means they are fully responsible for the foreign currency and any associated risks.

Similar to EXW, if the importer is located in a customs bonded warehouse or specific customs zone such as Free Trade Zone (FTZ) or Special Economic Zone (SEZ), the shipment must be cleared under the name of the importer’s entity, the DDP term cannot be used for such transactions.

A better alternative to DDP is the use of DAP (Delivered-at-Place), a deal in which the seller is responsible for all charges and risks in transit until the goods reach their destination (at a named place).  Under DAP, the buyer is responsible for all costs and risks associated with unloading the goods and clearing customs to import the goods into the destination country.