Free on Board, commonly known as FOB, is a term in international trade that defines the point at which a seller transfers responsibility for goods to the buyer. It clarifies who pays for shipping, who is liable for the goods at each stage of their journey, and when ownership of the products changes hands. This framework helps prevent misunderstandings when moving products across borders.
The Definition of Free On Board
Free on Board is a standardized shipping term under the International Commercial Terms, or Incoterms, published by the International Chamber of Commerce. These terms are globally recognized and create a uniform understanding of trade responsibilities. The core function of FOB is to pinpoint the moment that liability and control of goods shift from the seller to the buyer.
This transfer officially occurs when the cargo is loaded “on board” the vessel chosen by the buyer at the designated port of shipment. Once the goods cross the ship’s rail, the responsibility for their safety and transport is no longer with the seller. The term is always followed by a specific port name, such as “FOB Port of Shanghai,” which explicitly names the location of this handover.
Key Responsibilities Under FOB
The FOB Incoterm creates a clear division of duties and costs, ensuring both the seller and buyer understand their specific obligations.
Seller’s Responsibilities
The seller’s obligations cover all activities required to get the goods from their premises and safely loaded onto the designated ship. This begins with properly packaging the products for export, a step that accounts for the rigors of ocean transit. The seller must then arrange and pay for the inland transportation to move the cargo to the port of shipment named in the agreement.
Upon arrival at the port, the seller is responsible for clearing the goods for export, which involves preparing all necessary documentation and paying any associated fees or taxes required by the origin country’s customs authorities. The seller’s financial responsibility extends to all costs incurred up to and including the loading of the goods onto the vessel. Once the cargo is securely on board, the seller’s primary duties are considered fulfilled.
Buyer’s Responsibilities
From the moment the goods are on the ship, the buyer assumes full responsibility. The buyer’s first major task is to nominate the shipping vessel and contract with a carrier for the main leg of the journey, paying for the ocean freight charges. The buyer must also secure and pay for marine insurance to cover any potential loss or damage to the goods during transit from the port of origin to the port of destination.
Upon the ship’s arrival, the buyer manages and pays for unloading the cargo. Subsequently, the buyer must handle all import customs clearance procedures at the destination, which includes submitting the required paperwork and paying any import duties, tariffs, and taxes. The final responsibility for the buyer is arranging and paying for the transportation of the goods from the destination port to their warehouse or final delivery point.
Types of FOB Agreements
While the international definition of FOB is specific to the ship’s rail, the term is also used in domestic trade, particularly in North America, with two main variations. These distinctions are based on whether the responsibility shifts at the point of origin or destination.
FOB Origin
Under an FOB Origin agreement, also known as FOB Shipping Point, the sale is considered complete at the seller’s shipping dock. The buyer assumes ownership and liability for the goods as soon as they are picked up by the carrier. This means the buyer is responsible for paying all freight charges and bears the risk of damage or loss during the entire transit. For accounting purposes, the buyer records the goods as inventory once they leave the seller’s location.
FOB Destination
An FOB Destination agreement means the seller retains ownership and control of the goods until they are delivered to the buyer’s specified location. The seller is responsible for all transportation costs and assumes all risks of loss or damage until the shipment reaches the buyer. The sale is only recorded by the seller, and the inventory by the buyer, once the goods have arrived. This arrangement is often preferred by buyers as it places the burden of a successful transit on the seller.
How FOB Impacts Costs and Risk
The FOB designation is a central factor in determining the financial and liability structure of a trade transaction. The point at which goods are loaded onto the vessel represents a transfer of economic burden and risk from one party to another. This shift directly influences a company’s expenses and overall risk management approach.
When the goods cross the ship’s rail, the risk of loss or damage moves from the seller to the buyer, meaning the buyer is responsible for arranging marine insurance. For the seller, all costs incurred up to the point of loading, including transport to the port and export fees, are part of their cost of sale. For the buyer, the main freight, insurance, import duties, and final delivery expenses are added to the purchase price, which is fundamental for accurate budgeting and pricing strategies.
FOB Compared to Other Common Incoterms
Choosing the right Incoterm is a strategic decision, and understanding how FOB compares to other common terms provides context. The primary differences lie in the allocation of costs and the point at which responsibility transfers.
FOB vs. EXW (Ex Works)
Compared to FOB, Ex Works (EXW) places a significantly greater amount of responsibility on the buyer. Under EXW, the seller’s only obligation is to make the goods available at their own premises, such as a factory or warehouse. The buyer is responsible for everything else, including loading the goods, all transportation, export and import clearance, and all associated risks. FOB offers a more balanced distribution of duties.
FOB vs. CIF (Cost, Insurance, and Freight)
In a Cost, Insurance, and Freight (CIF) agreement, the seller’s responsibilities extend further than under FOB. With CIF, the seller pays for the cost of the goods, the main ocean freight, and the insurance to transport the goods to the named destination port. Although the seller pays for insurance, the risk of loss or damage still transfers to the buyer once the goods are loaded on the vessel, similar to FOB. Businesses may choose CIF to simplify their logistics, but it often comes at a higher price.