Breakage and Escheat – Navigating Gift Card Regulations

In News by Russell A. Wantland, J.D., M.B.A.

Whether you are planning on launching a new franchise opportunity or opening your third retail location, offering gift cards that can be used at any of your locations is an important step on the ladder of customer expectations. And while you may not immediately obtain placement of your gift cards on the gift card rack at a national chain drugstore, it is important to make sure state and federal regulations related to the issuance and management of gift card funds are followed. Remember, even though you may only have a few locations in one state, since your customers can’t stop talking about your latest product or service, those cards are likely to be purchased as gifts by many of your customers’ relatives and friends across the U.S.

There are two important concepts to understand when considering how to structure your gift card program: “Breakage” and “Escheat.” (I know – here go the lawyers making up new words that no one ever uses in normal conversation; keep reading if your eyes did not immediately glaze over… or come back later after coffee.)

BREAKAGE (Familiar word – new application)

“Breakage” is the term for the money that remains unclaimed on a gift card after a certain period of time such as after the expiration date on an expiring card or a certain number of years on non-expiring cards. As you can imagine this could be as little as three cents or as much as the entire balance of an unused/lost card.

Inevitably, after several years of offering gift cards, the issuers soon become aware of the growing balance of funds in their gift card liability account that are likely breakage. And while customer satisfaction is always priority number one, it is reasonable to believe that breakage will never be redeemed and surely you can’t be expected to keep that growing balance of funds set aside for ever!

ESCHEAT (obscure word – noun and verb)

“Escheat” is a term for the power of a state to acquire title to property that is unclaimed, for which there is no owner or for which there is no identified or identifiable owner.  In many states, gift card breakage may be considered unclaimed property subject to ‘escheatment’ (Oxford says that counts as a new obscure word

Laws governing what can happen to breakage come from both federal and state governments. The federal government establishes a minimum level of protection to consumers, leaving the states the ability to pass more restrictive regulations such as those requiring companies to have greater levels of disclosure, prohibiting or establishing minimum expiration dates, to honor gift cards longer than Congress has mandated, and even creating an affirmative obligation to pay the state the breakage.

If rapid expansion is anticipated for your concept, your gift card should comply with the requirements under both Federal Law and the laws of each of the fifty states. Because there are so many different gift card laws across the states, you may ultimately choose to offer two types of gift cards in order to give your company the most flexibility in dealing with breakage. Consideration should also be given to whether the gifts cards should be issued and managed by a separate company. One gift card would be without expiration dates to comply with the state laws that prohibit expiration, and the other gift card with an expiration date and terms that comply with the states that allow expiration.

As you can see, one of the challenges with determining who owns the breakage is identifying the “owner” of a gift card.  If the owner can be identified and that owner’s address is known, it may not possible for the gift card funds ever to be abandoned.  However, most of the time that sort of information is not known.

It is important to note that the most well planned gift card program may only protect gift card breakage from being escheated to a state. Whether the issuing company can realize gift card breakage as revenue is another question. If the gift cards do not have an expiration date, they effectively never expire and therefore will remain the property of the card holder in limbo forever. Gift Cards issued in compliance with the laws of states that do allow expiration dates provide more certainty as to the termination of rights in the breakage, due to the lack of clear regulatory and statutory guidance, there would always be a risk that a card holder or a class of card holders would make a claim to recover the breakage.

Many large retailers derecognize stale gift card liabilities. They recognize breakage income for those cards for which the likelihood of redemption is deemed remote. It is also commonly known that retailers have used historical redemption patterns to determine the rate at which its gift cards break and also the age for which the likelihood of redemption is deemed remote.

Careful analysis of the data and a well-developed gift card program could allow your company the flexibility to maximize its options with regard to the breakage created by a successful program. But as they say, the devil is in those details!