The importance of Pro-forma invoices

There are certain documents which play a vital, but often understated and misunderstood role in export contracts – one is the pro-forma invoice.  More often than not, the submission of a pro-forma invoice is the prelude to shaking hands on a successful international trade contract agreement and is often pivotal to the smooth running and completion of that contract.  The problem seems to be that this aspect of pro-forma invoices is not well known.  Consequently, pro-forma invoices are sometimes issued in a format which can be counter intuitive to fulfilling their function.

What is a pro-forma invoice?
There are three main types of invoices that are used in international trade.  The first is the commercial invoice.  This is a document issued by one organisation and addressed to another, detailing out the goods and/or services provided, the quantities, costs and any other pertinent information required under the laws of the countries concerned.  For example, in the United Kingdom, if VAT (value added tax) is included, the VAT number of the organisation issuing the invoice must be detailed in full on the invoice.

The commercial invoice is also issued in accordance with local accounting laws and is the major instrument by which a company details their sales and purchases in their Accounts.  A commercial invoice can also be issued to accompany goods in transit and is the document used by Customs in all countries to verify values and assist in the correct application of tax collection, such as Duty and Excise.

There are some circumstances, however, when a shipment is sent free of charge.  This can include warranty shipments, samples, or any shipment where the formal declaration of value is not included in the accounting practices.  However, since all goods must have a value, an invoice is required for all international shipments.  In the circumstances detailed above, a Customs invoice may be issued.  This is an invoice which can still be used by Customs in all countries to verify values, but is not included in the exporting organisations’ account procedures.  Unless, of course, the local country laws require this to be the case.

With contracts where the payment is required before the goods and/or services are sent, then a pro-forma invoice is issued.  A pro-forma invoice gives all the details that would be found on a commercial invoice, but it is not part of the accounting procedure.  It is a request for payment for a contract which may, or may not, be accepted.  Once the funds have been paid, then a commercial invoice needs to be issued to complete the accounting trail.

Additional function of a Pro-Forma Invoice
Over the decades the pro-forma invoice has developed an additional function.

A lot of countries operate exchange control mechanisms.  The United Kingdom is not one of them, having abolished exchange controls in 1979, but a lot of our trading partners outside the European Community do have these procedures in place.  What this means is that if an organisation in one of these countries wishes to pay for their purchases in one of the “hard” currencies (or even their own currency in some circumstances), they must apply to their Government to do so, since one of the objectives of exchange control is to ensure that any hard currency held by the Government is used for legal reasons.  The application to utilise any hard currency must prove that the money is being used to purchase goods and/or services which will be imported into the country.  The usual proof is a signed copy of the supplier’s pro-forma invoice.

In the circumstance that a Documentary Credit is issued, then the pro-forma invoice will be mentioned by number and date in the Credit.  However, it is very rare that a copy of the pro-forma is actually required as part of the Credit presentation.  The terms of the Documentary Credit are often dictated by the information presented in the pro-forma invoice, therefore it follows that the issuance of the pro-forma invoice should be done with some care.

The problem is that most pro-forma invoices are not issued with care.

Information required in a Pro-Forma Invoice
A pro-forma invoice often requires much more information than either a commercial or customs invoice.  As a guide only, it is recommended that the following information should be included on a pro-forma invoice, but please note that in some countries, local law practice will take precedent, so for certain countries additional and/or different information may be required.  It is the joint responsibility of both the exporter and importer to ensure that this document is correct.  In many cases the importer may find out on application to their relevant government department that additional information is required. Consequently, the exporter may have to re-issue the pro-forma invoice.  This is normal practice.  Patience is recommended.

1.  Title
The invoice should be entitled a Pro-Forma invoice and be given a unique number and dated. Most companies keep a record of their pro-forma invoice numbers with details of the customer, date and value.

2.  Name and Address
Full name and address of the importer and, if required, the full details of the delivery address, if this is different.

3.  Details of the goods and/or services
If a number of different items are being shipped, but they all come under a generic heading, then it is a good idea to head the description of the goods with the generic heading, usually in bold print.  This encourages the use of this heading for the description of goods on a Documentary Credit.  If there is no heading, then the Issuing bank may be tempted to include the full description of all the goods.  Which can sometimes be problematic when completing Documentary Credit documentation.

4.  Unit prices, quantities and total price
It is always useful (and in some countries mandatory) to show unit prices and quantities on a pro-forma invoice.  The currency used should also always be stated.  It is also rather important that all the figures add up.

5.  FOB values
By convention, and because a huge number of Import Customs authorities world-wide have their systems set up to note this detail, an FOB value needs to be declared on the invoice. The value of the goods can either have an FOB element built in, or can show the ex-works value of the goods and have the FOB costs shown as a separate line item.  For practical purposes the term FOB is used to mean all the costs involved from the goods leaving the warehouse door until they are loaded in the main form of transport.  Anyone who has read my blogs on the F-terms in Incoterms 2010 will be aware that FOB as a sales term under the 2010 version now has a very restricted use.  Consequently, a more accurate term to use is FCA.

6.  Additional freight charges (if required)
This should state the method of shipment i.e. containerised sea-freight, air freight, courier, etc and the final port of destination as well as the cost being charged by the shipper.  Where the exporter is also including Goods in Transit insurance (often incorrectly called Marine Insurance), then this needs to be stated as an additional line item.

7.  Incoterms as part of the Total Price statement
The total price should be stated with the correct ICC incoterms and version. There is no legal requirement anywhere in the world to use the ICC Incoterm terminology, but if they are being used, please do use the correct ones.  To assist, I have written a detailed blog about all 11 of the 2010 incoterms.

8.  Origin of Goods
Do state the country of origin of the goods.  This is not the country of supply, but the country of manufacture.  It is rather important that this information is correct, since in some countries there are various bans on goods from certain other areas, usually for political reasons.  Also, if the Documentary Credit asks for a Certificate of Origin, then usually the list of countries specified and allowed on the Credit is complied from the information stated on the pro-forma invoice.  Please note that in some countries, regardless whether the method of payment is Documentary Credit or not, Certificates of Origin are always required.

9.  Country of Supply
It is also useful to state the country or countries of supply.  This will often vary from the countries of origin of the goods, mainly because supply chains today are very global.

10.  Incoterm details
I often re-iterate the incoterms used (if any) and clarify exactly what the responsibilities, costs and risks are for each party.  The reason for this is that although incoterms are widely used today, there is still a great deal of confusion about who pays for what.  By clearly delineating these responsibilities and costs in the pro-forma invoice, it avoids misunderstandings, complaints and arguments at a later stage in the contract.

11.  Payment terms
These really do need to be spelt out in detail (especially when the method of payment is a Documentary Credit) and, if required, the bank details of the exporter should also be included.

12.  Insurance
This usually refers to Goods in Transit insurance and the reason I always include a statement is to clarify who is responsible for the insurance (again to avoid future arguments) and as a reminder that someone needs to think about the insurance.  If the exporter is responsible for the Goods in Transit insurance, then they need to clarify exactly what the insurance covers. Is it Institute Cargo Clauses A with Strikes and War risks, for example?  Is warehouse to warehouse cover included?  By stating exactly what is covered prevents future aggravation between the various parties.

13.  Despatch
This can be either detailed as an actual date or as a period of time from a specific action. For example, if the method of payment is by Documentary Credit, then the despatch can be stated as being, for example, 10 weeks from the date of receipt of a workable Documentary Credit.  Always use the word despatch and not the word shipment, since shipment can mean the date that the goods arrive as well as the date that the goods leave.

14.  Packing
This is an important detail to verify for insurance purposes.  If the exporter states that they are packing the goods suitable for sea shipment or air freight, then the importer knows that the goods must be packed to a standard which is acceptable to their insurance company.  If the exporter makes this statement, but fails to deliver, then they will be held responsible for any costs arising from unsuitable packing.  It is often useful, on the more complicated shipments, to specify exactly what type of packing will be used e.g. wooden crates, etc. Please note that in many countries now, the use of wood in packing could require that a phytosanitary certificate is issued, to prove that the wood has been treated to the standards required in the country of import.

15.  Validity
It is a good idea to always state the period of time that the pro-forma invoice is valid.  Since it acts as a form of quotation, ensuring that there is a limit to the time period in which the prices are confirmed for, is good business practice.  I often use 60 days from date of invoice, for example.

There are additional items that can be added.  Each industry and marketplace will have their own specific requirements.  Please do remember that nothing stays the same and that changes in international trade practices will always happen.  So the template of an organisation’s pro-forma invoice will need to be reviewed on a regular basis.

Maria Narancic from Point to Point Export Services is an independent international trade adviser who assists organisations world wide with their international trade projects, documentation, Documentary Credits and import/export training.  She is based in the United Kingdom.  If you require any further assistance regarding the subject matter above, please do contact us by e-mail on info@point-point.com or look up other articles on international trade on the Point to Point Export Services website at www.point-point.com

 

 

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