FOB Destination

FOB destination, short for "free on board destination," is a shipping term stating that ownership of goods, and the risk of loss or damage, stays with the seller until the goods arrive at the buyer's specified location. Only when the shipment is delivered does title pass to the buyer. Under these terms the seller normally arranges and pays for transport and is responsible for any claim if goods are lost or damaged on the way.

FOB destination is the counterpart of FOB shipping point, under which ownership passes as soon as goods leave the seller's premises. The choice between the two affects who pays freight, who must insure the goods and, most importantly for accountants, when the sale and purchase are recorded. In US domestic trade, FOB terms draw on the Uniform Commercial Code, though contracts can modify them. In international trade, the Incoterms rule called FOB means something different and is limited to sea freight; destination-style deliveries there are usually written as DAP or DDP.

Under FOB destination, freight is usually described as "freight prepaid," meaning the seller pays the carrier. The seller records this cost as freight-out or delivery expense, a selling expense on the income statement. Some contracts use variations, such as "FOB destination, freight collect," under which the buyer pays the carrier even though the seller keeps title until delivery. The bill of lading and purchase order should state the terms clearly to avoid disputes.

Under ASC 606 in US GAAP and IFRS 15, revenue is recognized when control of goods passes to the customer. Legal title, physical possession and risk of loss are important indicators of control, so with FOB destination terms the seller typically records revenue on delivery rather than on shipment. Until then the goods remain in the seller's inventory, even though they are on a truck or ship.

For example, a supplier ships $40,000 of goods costing $26,000 on 29 December under FOB destination terms, and they reach the customer on 3 January. At its 31 December year end the supplier should not record the sale. The goods stay in its inventory at $26,000, and no accounts receivable is recorded. On 3 January it debits accounts receivable and credits sales for $40,000, and debits cost of goods sold and credits inventory for $26,000. The buyer, likewise, does not record the purchase or the payable until 3 January.

Shipping terms matter most at the end of a reporting period, during the year-end close. Goods in transit under FOB destination belong to the seller, so they must be added to the seller's inventory count even though they are not physically in its warehouse, and excluded from the buyer's. Getting this wrong shifts revenue and profit between years, a classic cut-off error. Auditors test cut-off by examining shipping documents, carrier confirmations and invoices dated just before and after year end, and by checking that sales recorded in the last days of the year were actually delivered. Practitioners often summarize the rules this way:

• Under FOB destination, the seller owns goods in transit, records the sale on arrival and usually pays freight.
• Under FOB shipping point, the buyer owns goods in transit, records the purchase on shipment and usually pays freight.
• Goods held on consignment remain the property of the consignor regardless of where they are; see consigned goods.

Buyers often prefer FOB destination because they take on no transport risk and pay nothing for goods that never arrive. Sellers may accept it to win business but usually build the freight and insurance cost into their price. When goods are damaged in transit under FOB destination, the seller files the claim with the carrier and must replace or credit the goods. Businesses with complex logistics often use a freight forwarder, and for cross-border shipments they should use the appropriate Incoterms rule rather than domestic FOB wording to avoid confusion.