In the U.S. and many other countries, delivery to a customer’s doorstep or warehouse is commonplace, even expected. In international shipping lingo, the Incoterm is “DDP,” or delivery, duty paid.
So when shipping to overseas customers, it’s only natural to want to do the same. After all, the customer prefers this, because it’s easiest for them!
However, there are many reasons why this may not be a good idea. Let’s look at some of the reasons.
- Local Customs Compliance. When you agree to deliver goods to a foreign buyer, you become the importer of record in that country.
Even if the buyer agrees to arrange in-country customs clearance and transportation, you will still be responsible for local customs compliance. If the buyer messes up, you’re still responsible. The same goes for any bribery that takes place locally, by the way.
- VAT Taxes. Because title will transfer and sale will occur in the buyer’s country, the local sale will most likely be subject to VAT (value-added tax to the sale — also referred to elsewhere as HST (Canada), IVA (Mexico), and various other names).
These taxes can be significant (for example, VAT rates in European countries can be as high as 27%). VAT is not quite like sales tax – if your customer imports the products into his/her local country, they pay the VAT, but then get to offset that with VAT that is paid to them.
You, being a foreign company with no other operations in that country, cannot offset the VAT paid (unless you register locally for VAT, but that has its own expense and complications). So for you, it becomes a true added cost to the price of your product. Chances are good that your customer will not like the effective 27% increase in the price of your products. It could even make your product pricing non-competitive in that market.
Worse, the buyer in some countries will be able to claim the VAT if they arrange for local transportation – even though you paid it. And they probably won’t tell you about it, if they do!
- Permanent Establishment Risk. Because the sale occurs in the local country, you are subject to the tax laws of that country. Since governments everywhere are greedy and want you to pay taxes if they can, you may be triggering obligations to report and pay local income tax, if not structured carefully.Renting local warehouse space in the event of customs and other local delays, as well as having any local agents may further add to this risk. This is what the tax people refer to as creating a “permanent establishment,” or p.e. — meaning you have a taxable presence in that country.
- Lack of Cost Transparency. If your buyer or anyone other than your freight forwarder arranges in-country clearance, warehousing, duties, and local transport, you need to be prepared to write a blank check. You have fully agreed to pay for any customs clearance delays or other delays and costs, but have no control over what happens.Here is where padding of invoices can occur. There may also be reasons your buyer doesn’t want the products delivered immediately – perhaps they don’t have the cash to pay for them just yet, and will arrange to have them shipped when they are ready.
- Revenue Recognition Issues. Finally, if your freight forwarder does not manage the local delivery process, you may have issues knowing precisely when to book the sale for financial accounting purposes. One U.S. company, for example, found a distributor in Sweden and agreed to DDP delivery (the distributor’s warehouse in Sweden).However, they found that their freight forwarder could only get the product to Swedish customs. They then worked out an arrangement with their distributor, who would arrange local customs clearance and transportation, but the U.S. company would pay for this, so that the price to the customer remained the same.Unfortunately, because the U.S. company no longer had visibility to the progress of the shipment once it got handed off locally in Sweden, they had no way to confirm when the products were actually delivered to their Swedish distributor.The distributor no doubt knew this, and started becoming unresponsive and evasive to questions about whether and when various shipments actually were delivered.It was clear that the distributor was receiving products, because they were reporting local sales of the products to Swedish customers. But the U.S. company’s finance team had no concrete information on whether or when to book sales of the various shipments to the distributor. After receivables mounted to several hundred thousand dollars, the U.S. company finally threatened to cut off the distributor.At which point, the distributor wanted a discount on the receivables due.The U.S. company felt it had no choice but to agree – it looked into a collection action in Sweden, and found that it would be difficult and expensive. And the distributor was already selling products to customers in the local market and had more customers who wanted the products. The U.S. company had no “Plan B” distributor, and knew it would take some time to find a new distributor and transition everything.In the end, the company’s agreement to deliver DDP to the distributor cost them 26% in margin (the VAT rate in Sweden that they had not expected to pay) and a nearly $100,000 haircut in the receivables balance write-off that it felt forced to accept.
The company thought that accepting DDP delivery terms would set their relationship with their new distributor off well with this concession. Instead, it created ill-will between the parties that soon led the two companies to part ways. The U.S. company then incurred more costs and lost sales through the effort and expense of finding and transitioning a new distributor.
Moral of the story? Think long and hard before agreeing to DDP delivery/ delivering to the buyer’s door in international transactions. Do your homework, and make sure you fully map out the entire supply chain and calculate the true costs.
Leave a Reply