No Accounting for Unredeemed Gift Cards

Discussion
Dec 12, 2005
George Anderson

By George Anderson


Gift cards are increasingly popular with American consumers. As a survey by Deloitte & Touche points out, more than two-thirds of shoppers in the U.S. are expected to buy nearly five cards apiece this year.


While this exchange of plastic (the credit or debit type) for plastic (the gift card type) would appear to be all good for retailers, it has a downside. Many gift card recipients never redeem them.


In non-accounting terms, getting something for essentially nothing (gift cards cost pennies) would seem to be the best of a number of profitable outcomes for retailers. In reality, it is a great pain in the general ledger, reports Reuters.


“The retailer doesn’t get to recognize any revenue upon the gift card sale, so that becomes a liability to them,” said William Park, a professional practice director for consumer business at Deloitte & Touche.


Because retailers understand that a certain percentage of gift cards will never be redeemed, some have begun recognizing revenue against these transactions. While the practice is legitimate, how it is handled is of concern to the U.S. Securities and Exchange Commission (SEC).


Companies such as Home Depot and Circuit City have used a formula based on historical data to calculate earnings from unredeemed cards (aka breakage). This past May, using its formulation, Home Depot recognized $43 million in revenues from this practice.


The SEC, said staffer Pamela Schlosser, has taken issue with some businesses that have chosen to recognize card revenues immediately. By recognizing revenues in this way, said Ms. Schlosser, companies fail to give consumers the opportunity to redeem cards.


The proper practice, she said, comes when a retailer accounts for breakage when redemption seems unlikely or an expiration date on a card has passed.


The breakage issue has become more important because, as Katherine Briant, an industry solutions specialist with SAP Triversity, points out, some states require retailers to hand over unused gift card balances after a certain period of time.


“Retailers have realized there was a significant dollar value they would lose to the states,” she said.


States’ quest for revenues has led some including California, Connecticut and Massachusetts to make it illegal for companies to put expiration dates on gift cards. California, in addition, does not allow retailers to deduct unredeemed gift card fees over time.


Moderator’s Comment: What is the answer to retailers’ gift card accounting dilemma?
George Anderson – Moderator

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16 Comments on "No Accounting for Unredeemed Gift Cards"


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Mark Burr
Guest
15 years 2 months ago
There really is no downside for retailers here. At least those that are reasonable or allowed to be reasonable by over stretching government regulations. Gift cards are a technological replacement of the old fashioned paper gift certificate. It’s one instance where the technology actually worked to a huge success. And, it should be allowed to continue to do so. When most, if not all, retailers sold paper gift certificates, there was clearly printed on it, an expiration date. Typically it was one year. And, at that time it likely seemed reasonable. At least one might think it was reasonable. Now with the explosion of gift cards a reasonability check might be in order. But, it should be each retailer’s choice. Gift cards are sold anonymously. That is to say, they can’t be tracked to the recipient. That makes for no opportunity for a reminder or for notification of dormancy. (By the way, the industry term is dormancy.) That’s the period of time between use. Retailers typically notify on the back of the card the period… Read more »
Bill Bittner
Guest
Bill Bittner
15 years 2 months ago

When a retailer sells their own gift cards, this all makes sense. The retailer gets the gift giver’s cash and creates a liability for future merchandise purchases by the card receiver. What I don’t understand is what happens when the retailer sells someone else’s gift card. I have seen Home Depot cards hanging in the Supermarket. Does the Supermarket get the sale right away?

From another perspective, I think a big question is how do gift cards impact your promotional campaigns? Especially holiday oriented campaigns. I guess we would all assume they cause a shift in sales but do we really understand it yet? Do we need to temper the after holiday discounts? This might work for the current season, because January is generally slow anyway. Cards would encourage shifting some post Christmas sales into that slower selling period.

I think it is going to be a while before we understand all this….

Kai Clarke
Guest
15 years 2 months ago
The gift card situation is both a blessing and a curse. Retailers should do the right thing here. That is, not to recognize revenue until the gift card has been redeemed, or, until a long enough time has transpired that the remaining cards are certainly not going to be redeemed (i.e. 5 or 10 years). Gift cards are like outstanding checks. Keeping them on the books, from an accounting perspective, should be done as a footnote in the liability section. States do not deserve this revenue and this type of practice goes in the opposite direction, since it is not the retailer’s fault that the cards haven’t been redeemed (why should the retailer be punished??) This is the bane of the gift card, and when retailers choose to go down this path, they must adhere to a sound system of accounting and communicating for gift cards. Placing redemption dates on gift cards is contrary to sound ethics, retailing and any consumer’s intentions. States like California are doing the right thing in enforcing an open gift… Read more »
David Zahn
Guest
15 years 2 months ago

The issue is one of how to account for it, not whether the gift card has in fact been purchased. That being said, the revenue can be collected and posted as having been received. What is not being captured is the subsequent reduction in inventory when it is redeemed. So, it becomes an obligation or debt to be paid (that may not be the official Accounting term to be used).

It seems legitimate to say that after 24 months, if there has not been activity on the “account” – then it can be assumed to be no longer likely to be used and the revenue can be recognized without a subsequent obligation attached to it.

As of now (if I understood the issue correctly) – the revenue is not recognized, and the obligation is only recognized upon a sale or redemption…so this is not going to negatively impact retailers…right? Or, am I not framing the situation correctly?

Mark Burr
Guest
15 years 2 months ago

In response to the question – What happens when the supermarket sells cards of other retailers? The ‘third party’ gift card sale can be recorded in a several ways. For example, typically they are offered to other retailers to sell by commission on the total value less a transaction fee. A retailer can record them as sale with the commission less fees acting as their gross profit. Or, they can record the sale as other income where the commission is simply treated as the net other income. With commission rates not typically equaling a reasonable gross profit percentage on the sale, the other income route is most likely. In that case its much the same as selling lottery tickets on commission or money orders. Many don’t count lottery as sales, they simply record the sale as other income and the net commission being the final other income.

Michael L. Howatt
Guest
Michael L. Howatt
15 years 2 months ago

What’s next for CA, CT and MA? Taking expiration dates off Milk, Medicines, Pork & Beans? Do they think consumers are not used to expiration dates? If all gift cards had a 1 year expiration, it wouldn’t be a big deal, most people work better when there is a deadline. Use it or lose it. It would certainly solve the whole issue.

Dan Raftery
Guest
15 years 2 months ago

Expanding Bill Bittner’s line of questioning: what about the unused minutes on phone cards? What about the interest earned on the float that occurs before the redemption of a gift card? What about those in-store returned merchandise credit cards used in the DIY channel? More to come….

Herb Sorensen
Guest
15 years 2 months ago

There is a philosophy of government that says anything that isn’t nailed down, belongs to the government. For example, if party A owes party B a million dollars, and party B dies without heirs or estate, the government has the right to collect (confiscate) the million dollars from party A. Is this right? How about if a supplier fills an order for me and never sends me a bill, does the government have the right, over time, to bill me?

I’m sure our libertarian friends would insist that the money belongs in the private sector. But most people would not approve of Swiss banks keeping the largesse of holocaust victims. It’s not just a matter of finding heirs or their just derivatives. Something tells us that it is not right for the banks to profit from this.

So who should “own” the gift card money? And does this include the float?

Mark Lilien
Guest
15 years 2 months ago
From an accounting point of view, the escheat issue is nicely summarized by the New York State CPA Journal. Every state’s attorney general or secretary of state maintains an abandoned property fund, composed of unclaimed bank accounts, unclaimed insurance proceeds, unclaimed dividends, etc. Every state keeps the names and amounts online, so you can search these lists for free. In the 1970’s, several major retailers (Saks, Bloomingdale’s, etc.) were busted by the New York State Attorney General for absorbing unclaimed credit balances on charge card accounts (people who returned merchandise after paying the credit card balance in full, for example). After those scandals, charge account executives started depositing unclaimed funds into the states’ escheat law accounts. Another example: in most states, a bank account is considered dormant and then turned over to the abandoned property account of the state after 3 to 5 years of inactivity. The dollars collected by selling gift cards add to the retailer’s cash flow, but they aren’t considered sales, from a legal or accounting viewpoint, until the cards are used… Read more »
Bernice Hurst
Guest
15 years 2 months ago
Here I sit, puzzled again by your strange American customs. Where is the money? Has the customer actually spent it or does his/her debit/credit card not get deducted until the recipient uses the gift card? As someone else asked, where is the interest on that money going or, conversely, who has paid interest on the credit card bill? In ye olden days of yore, people who chose not to give actual, real, gifts sent actual, real money. Then the recipient could choose how, when and where to spend it. Gift cards seem to me to come with strings attached which may be one reason why they are not always used. Pre-selecting the store where a gift may be selected equates to giving a gift that the recipient may not want so, instead of returning it, they simply don’t go out and buy it even though it has allegedly been paid for. Which means that both giver and recipient lose out? Giver gives but recipient doesn’t receive? This does not make sense. Can someone please explain… Read more »
Mark Lilien
Guest
15 years 2 months ago

Bernice, here are some reasons rational people buy gift cards: (1) they don’t want to give a gift that might be the wrong color, size, cut, or pattern; (2) they don’t want chance giving a duplicate; (3) they know the recipient LOVES the store; (4) they don’t want to board a jammed jet plane while carrying a bulky bunch of presents; (4) the recipient isn’t “gift registered” anywhere; and (5) the giver knows the recipient loves to shop and the giver doesn’t. Here are some not-great, but human, reasons people buy gift cards: (1) they don’t know the person well enough to know what he/she really wants or his/her taste; (2) they haven’t devoted the time to shop; (3) the giver LOVES the store and thinks the recipient would like it too.

David Livingston
Guest
15 years 2 months ago

It seems to me that retailers are absolutely counting on people not redeeming the cards. The post office doesn’t expect everybody to use the stamps they buy and promote stamp collecting. Not all winning tickets at the horse track get cashed. Best Buy and similar stores promote products with a rebate hitch hoping customers never apply for the rebate or they will simply not send it out in hopes that the customers will become discouraged and give up trying. Smart accountants can worry about the books but the retailers can pocket the profits.

MARK DECKARD
Guest
MARK DECKARD
15 years 2 months ago

The only way around the CA, CT & MA gift card laws on unredeemed amounts is for the retailer to partner with a bank card (i.e. VISA, MasterCard).

More on legislative unfairness – where retailers holding unredeemed amounts on gift cards or certificates cannot expire or charge maintenance fees on the unclaimed amounts, the regulations governing banks CAN and do allow “credit/debit card-type” gift cards to expire or charge maintenance fees on the unused amounts until gone. (But there’s no monetary benefit here for the retailer.)

As previously pointed out by others, the states demand that unclaimed funds from gift certificates/cards are to be turned over after a certain period. These dollars are dumped into the General Fund to be used at the state’s discretion.

Bernice Hurst
Guest
15 years 2 months ago

Thanks, Mark, for the rationale but I still don’t understand the economics of where the money goes.

Stephan Kouzomis
Guest
Stephan Kouzomis
15 years 2 months ago

I sense that some people think in terms of coupons. Gift cards,
even with the strict laws in some states, ARE NOT like coupons
being redeemed!

Consumers see a higher value, and if you want to believe this – the redemption level is as high as 98%! (Reason is consumer communication.) Coupons are down to, what, 2 to 8%?

I would think (and know some) retailers would do everything possible to get the shopper to remember he or she has a valuable $ tool to use up.

This is where the consumer engagement factor comes into play!
Hmmmmmmmmmmmmmmmmmmmm

Mark Lilien
Guest
15 years 2 months ago

Potentially, gift cards can unleash successful viral marketing. What’s the most effective advertising? Word of mouth. When a person buys a gift card, the retailer gets a great endorsement from a trusted source. If the retailer enabled the giver to register his/her name and address as well as the recipient’s info, the retailer could follow up with mail or e-mail promotions. The great success of Harry & David and Ethel M Chocolates and many other mail order gift retailers is their use of exactly this type of viral marketing. All givers and recipients of Harry & David, Ethel M, etc. get catalogs and coupons each year. In essence, each giver generates sales leads and each recipient is a great potential customer, since she/he has tried the product. It would cost something to allow (not demand) customers to supply the data, but the mailing list value would be greater than the cost. And the mailing list can be rented to other firms, generating additional profit.

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