What Are Gift Cards?
Gift cards are a form of pre-paid stored-value money product issued by retailers, banks, or other financial institutions. They represent a monetary value that can be redeemed for goods or services at designated merchants. As an integral part of consumer finance and payment processing, gift cards offer a convenient alternative to cash or traditional credit and debit cards for specific purchases. They function as a type of financial transaction where the value is loaded onto the card in advance, allowing the recipient to choose what they want to buy from the issuer or participating network.
History and Origin
The concept of gift certificates has existed for decades, but the modern plastic gift card emerged in the mid-1990s as a solution to combat counterfeiting and enhance convenience. The video rental chain Blockbuster is widely credited with introducing the first widely available plastic gift card in 1994, which helped pave the way for its widespread adoption in the retail sector. The innovation provided a more secure and durable alternative to paper gift certificates that were prone to fraud. Following Blockbuster's lead, other major retailers and financial institutions quickly recognized the potential of these cards, leading to their proliferation across various industries.5
Key Takeaways
- Gift cards are prepaid payment instruments, providing a specific monetary value for future purchases.
- They serve as popular gifts, marketing tools, and mechanisms for customer retention.
- Regulations, such as the CARD Act in the U.S., govern expiration dates and fees to protect consumers.
- A significant portion of gift card value often remains unredeemed, contributing to what is known as "breakage" for issuers.
- Both physical and digital formats of gift cards are prevalent, with digital options gaining increasing popularity.
Interpreting the Gift Cards
Gift cards, from a financial perspective, represent a liability for the issuing entity until they are redeemed. For consumers, they are a form of disposable income earmarked for specific purchases or categories of goods and services. Businesses track gift card sales as deferred revenue on their balance sheet and only recognize it as actual revenue when the card is used, or, in the case of breakage, when it's determined that the value will likely never be redeemed. Their existence signifies a retailer's effort to drive retail sales and cultivate customer loyalty.
Hypothetical Example
Consider Sarah, who receives a $100 gift card to a popular online bookstore for her birthday. Her friend purchased the card directly from the bookstore's website. The $100 is loaded onto the card's balance. When Sarah decides to buy $75 worth of books, she enters the gift card number and PIN during checkout on the e-commerce site. The $75 is deducted from the card's balance, leaving her with $25 remaining. The bookstore then recognizes $75 in revenue. If Sarah later buys another $20 book, her balance becomes $5. This demonstrates how gift cards facilitate segmented consumer spending.
Practical Applications
Gift cards are extensively used in various sectors, primarily as a gifting solution, but also as a powerful marketing strategy and business tool. Retailers use them to encourage new customers, drive traffic to stores or websites, and promote specific product lines. Corporations often utilize gift cards for employee incentives, sales promotions, or as rewards in loyalty programs. Furthermore, general-purpose gift cards (those bearing the logo of major payment networks like Visa or Mastercard) can be used almost anywhere regular debit cards are accepted, providing broad utility. The U.S. gift card market alone was valued at hundreds of billions of dollars in recent years and is projected for substantial growth, reflecting their widespread adoption and convenience.4
Limitations and Criticisms
Despite their popularity, gift cards come with certain limitations and criticisms. A primary concern is "breakage," the industry term for the portion of gift card value that is purchased but never redeemed. This unspent money typically becomes profit for the issuer. As of a recent survey, 43% of Americans have at least one unused gift card, with the average individual holding $244 in unspent value, totaling an estimated $23 billion nationwide.3 Other drawbacks include:
- Expiration Dates: Although federal law (the Credit CARD Act of 2009) generally mandates a minimum five-year expiration period for gift cards from their activation date, some consumers still encounter issues or confusion.2
- Fees: While inactivity fees are heavily restricted by federal law, some general-purpose gift cards may still charge maintenance fees under specific conditions (e.g., after 12 months of inactivity).
- Limited Use: Store-specific gift cards can only be used at the issuing merchant, which may not always align with the recipient's needs or preferences.
- Security Risks: Gift cards can be lost, stolen, or fall victim to scams, leading to a complete loss of their value for the legitimate holder, as they often lack the same consumer protection features as credit cards. The Federal Trade Commission (FTC) warns that scammers frequently demand payment via gift cards because the transactions are difficult to trace and reverse.1
- Merchant Bankruptcy: If a retailer goes out of business, any unredeemed gift card balances may become worthless.
Gift Cards vs. Store Credit
While often confused, gift cards and store credit serve distinct purposes. A gift card is typically purchased by one party to be given to another, representing a pre-paid value for future purchases. It is a form of digital currency that circulates as a gift or incentive. Store credit, conversely, is usually issued by a retailer to a customer as a refund for returned merchandise when the original payment method cannot be reimbursed, or if the store has a "store credit only" return policy. Store credit is not typically purchased, nor is it intended as a gift. Both represent a liability for the issuing merchant, but their origination and typical use cases differ. Gift cards are part of a broader cash flow generation strategy, while store credit is a mechanism for handling returns.
FAQs
Q: Can gift cards expire?
A: Under federal law in the United States, gift cards cannot expire in less than five years from the date they were activated or from the last date funds were added to the card. Some states have even stricter laws, prohibiting expiration dates entirely.
Q: Are gift cards safe from fraud?
A: Gift cards are susceptible to various forms of fraud prevention challenges, including theft, tampering, and scams. Unlike credit cards, gift cards generally do not offer the same level of fraud protection or ability to dispute charges, meaning lost or stolen funds are often unrecoverable.
Q: Can I use a gift card online and in-store?
A: Many modern gift cards are designed for both online and in-store use. For online purchases, you'll typically enter a card number and a PIN, similar to a debit or credit card. Some purely digital gift cards are designed exclusively for e-commerce platforms.
Q: Do retailers make money from unused gift cards?
A: Yes, the unredeemed value on gift cards, known as "breakage," is recognized as revenue by the issuing company, significantly contributing to their profitability. This happens when the card expires (if applicable) or when the issuer determines the likelihood of redemption is extremely low.
Q: What's the difference between a closed-loop and open-loop gift card?
A: A "closed-loop" gift card can only be used at the specific retailer or chain that issued it (e.g., a coffee shop gift card). An "open-loop" gift card, branded with a payment network like Visa or Mastercard, can be used at any merchant that accepts that network's cards, functioning more like a prepaid debit card.