Like it or not, when a company issues a gift card they have to realize that they could potentially be around for a long time, especially now that the federal gift card laws require they don’t expire for at least 5 years.

That is the lesson Apple learned when it advertised 99 cent songs on some of its gift cards or their packaging and later increased the prices on some songs.

If you happened to be one of the customers that bought or received a 99 cent gift card, a class action settlement has been reached valued at $3.25 per customer.

Have you ever wondered what gift cards would be like in this country if we had no gift card laws or consumer watchdogs?  Look no further than China as this recent report illustrates.

Prepaid gift cards make up almost 10% of Chinas $1.56 trillion consumer economy, at around $153 billion dollars. For comparison, that is about 1 1/2 times the amount spent on gift cards in the US while the US consumer economy is 6.5 times larger.  In the US, about 1% of consumer spending is on gift cards.

Gift cards are largely unregulated, meaning, breakage (the amount of the card face value not spent before the cards expire) could well be many times larger than in the US, where breakage is believed to be around 10%.  As far as I can tell, there are no laws limiting card expiration.

There is no concept of unclaimed property laws in China, which means any gift card balance not spent goes directly to the issuing company.  In the US, states have become very aggressive at claiming gift card breakage as unclaimed property which means companies profit less and less from unspent balances.

Gift cards in China pay no interest, despite a very high level of inflation; companies get to put the gift card money to work as consumers aren’t using the cards while the card face value becomes lower and lower.  You can be sure that if we had 7-10% inflation in the US, laws would be passed requiring gift card to pay interest.

Gift cards take a bite out of Chinese consumers

• Source: Global Times
• [20:57 April 28 2011]

Observers often try to understand the mysterious patterns of Chinese consumption, such as the general sense of thrift when saving money, obsession with luxury goods and the sometimes irrational enthusiasm for health products.

The wide use of prepaid gift cards perhaps offer us some hints about Chinese patterns of consumption. Somehow the tiny little gift card has become a symbolic economic idiosyncrasy.

China isn’t an enthusiastically consumerist country. Its total GDP is twice that of the UK, but according to World Bank statistics, in 2010 its total household consumption ($1.56 trillion) was even lower than the UK’s ($1.72 trillion).

hinese spend modestly on most things – save gift cards.

According to consultants’ estimates, Chinese consumers spend nearly 1 trillion yuan ($153 billion) on prepaid gift cards each year, while the British only spend $5 billion. It is also estimated that in China’s malls, payments made through gift cards account for 15 percent of merchants’ total average revenue.

Gift cards’ intriguing popularity has explanations, many of which are cultural. Gift-giving is certainly a Chinese custom. Sometimes such gift is in the form of hongbao (red envelopes containing cash), which seem to be indelicate. But many are worried as to whether gift cards worth hundreds of yuan are a medium for expressing gratitude or a vehicle for small bribes.

Recently, the use of gift cards as bribes even drew attention from the highest ranks of the Chinese government.
On March 25, Premier Wen Jiabao, during a speech on fighting corruption, warned that the gift card had created an easy means of corruption and called on the government to address the issue.

But it’s unlikely that a market of 1 trillion yuan is all made up of bribes. There is also economic rationale behind this boom.

Some people believe that company’s giving out gift cards rather than direct payments to employees facilitates tax evasion.

This partly explains the enormous amounts spent on gift cards by large firms.

As to the supply side, at a time of inflation and mounting interest rates, a gift card that pays consumers no interest are actually giving retailers whopping extra income.

Retailers can sell gift cards to consumers and then lend the deposited money out, while the consumers are shouldering the burden of inflation.

This is barely perceptible to each individual. But the lucrative margin pushes merchants to issue massive amounts of gift cards.

It seems almost unbelievable that so many people would unwittingly throw money away like this. But this is very common in China, as many consumers often have multiple gift cards and it is not easy to find the time to shop before the expiry date.

Most people aren’t aware of the risks around cards. But consumers and taxpayers ultimately pay the price for tax evasion and the loss of interest.

The emergence of China’s gift card culture thus has solid commercial rationale. Its consequences, apart from the potential consumer’s welfare loss and adoption as bribery, are not all bad, tough.

After all, gift cards spur spending. Chinese usually instinctively save cash, but do spend most of their gift cards.

Anything that gets money out of savings accounts and into the wider economy is good for the country, from a Keynesian perspective even if it costs consumers a tiny amount each time.

I feel for the government, I really do.  It is well known that terrorists, drug gangs, and other criminals are using prepaid debit cards (including gift cards) to launder money and circumvent financial reporting rules.  But do we really need draconian rules in place that will make buying a prepaid card of any type a huge hassle and infringe in the legitimate privacy of individuals?

Right now there is a huge disparity between banks and non-bank entities when it comes to purchasing prepaid cards.  You can buy a $500 gift card from your local mall or Safeway without any reporting, but a bank will likely require you to have an account there to purchase even a $25 prepaid card, so they can identify who you are.

The Treasury Department recently proposed new rules for prepaid cards, which were mandated by the Credit Card Act of 2009.  Specifically, they are proposing that non-bank entities selling prepaid cards:

• File suspicious activity reports (SARs) with the government on suspicious activity of more than $2,000.
• Collect customer information anytime a card is reloaded at someplace other than a bank.
• Maintain transaction information.

For the next 30 days (as of June 28) the public can comment on the proposed rules.

Most troubling is the provision that requires reporting  anytime a card is reloaded.  I know a few people that use these reloadable cards because they have a strong sense of a right to privacy and don’t want their personal spending habits picked through by either hackers or warrantless government requests.

My biggest concern though is that this represents a slippery slope towards total reporting on every prepaid card purchase, essentially treating everyone like criminals.  As an example, while Federal law requires only reporting of cash transactions over $10,000 by banks, one of my banks recently gave me the FBI treatment when inquiring whether a cash withdrawl of less than $10,000 was an attempt to get around the financial reporting requirements.  Get that, the bank was not required to report the transaction but was giving me the once over anyways to cover its butt.  We could see a similar effect with the new prepaid card reporting rules, where some retailers figure they will cover their butts by requiring personal information on ANY prepaid/gift card purchase.  This also means that if you are a business buying 30 $50 gift cards for your employees, you will be suspected of criminal intent automatically.

On the bright side, if personal information was required for EVERY purchase of a prepaid card of any kind, it would be a lot harder for companies to claim unspent funds as breakage and for states to co-opt breakage funds as unclaimed property which would never likely be returned to their rightful owners

Also on the bright side, if personal information was required for EVERY purchase, perhaps people will be less inclined to purchase gift cards and I will receive less of them and more real, thoughtful gifts.  Along similar lines, I haven’t bought Sudafed since they started asking for my ID to buy it.

New Hampshire is a great state.  They have no state income tax and no state sales tax. Their motto is Live Free or Die.

And in New Hampshire, gift cards and gift certificates with an original face value of $100 or less are not allowed to expire.  Ever.

Hawaii’s governor is threatening to veto a bill that purports to sync up Hawaii’s gift card laws with the new Federal standards, but also changes the rules to allow card issuers to add new fees that are currently not allowed.

Under the proposed law, retailers would be allowed to add an up-front fee that buyers pay when purchasing gift cards, up to 10 percent of the face value of the gift card, up to $5.  The law is being proposed under the guise of syncing up Hawaii’s rules with Federal gift card rules applicable under the Credit Card Act of 2009.  Newsflash Hawaii legislators, the stricter parts of those laws apply to your state whether or not you change your state laws.

This is a real shame, as Hawaii has one of the most consumer friendly gift card laws.  We can only hope the Governor vetoes the bill.  Under current law, gift cards (actually any electronic card with a banked value, so applies to prepaid debit cards as well) are not allowed to have any fees at all.

A bill passed by the House (summary here) of Representatives this week would delay the onset of the disclosure requirements of the gift card provisions from until January 31, 2011.  The disclosure requirements are considered among the most onerous of the new gift card regulations because they all but insure that gift card issuers will have to remove the current inventory from store shelves, destroy them, and issue new gift cards with the proper disclosures on the outside of the packaging.

This is a bit of a setback for consumers, as it is possible in that time that cards that have expiration dates that don’t meet the requirements of the gift card laws will likely still be sold.  While issuers will have to honor request for replacement of those cards with new ones that have later expiration dates upon request, there are sure to be plenty of cases where consumers aren’t aware of this or store personnel are not properly trained, and deny requests.

The bill still must be passed by the Senate to become law.

Update 7/14/10:  The bill was passed by the Senate yesterday.  The rules for new open-loop gift cards discussed above will not have to take effect until January 31, 2011, for cards produced before April 1, 2010.  The industry is thrilled.

Apparently MasterCard and Visa are clamping down on the use of prepaid (reloadable?) debit cards for use at online gambling websites to comply with the Unlawful Internet Gambling Enforcement Act (UIGEA).  It isn’t clear whether this applies to just some of the vendors of prepaid cards (Vanilla Visa, NetSpend) or all of them.  It also isn’t clear if it applies to non-reloadable prepaid and MasterCard and Visa branded gift cards.

A troubling trend that has developed over the last few years has been States extending their unclaimed property laws to apply to gift cards, which means stealing away the free money that retailers thought they were entitled to when consumers didn’t use up their gift cards.  Many states now do this.  I have always assumed that states make little to no effort to find the rightful owners of the gift card money.

But it is actually worse than that.

According to a recent study done by CardHub.com, some states are actually requiring information in addition to the gift card number for consumers to claim their funds, information such as the name of the person who purchased the card and the credit card number used to purchase it.

Which begs the question, if the state has this information, why doesn’t it try to return the money.  For that matter, if the retailer had this information, why didn’t it try to contact the customer?

For some reason, iTunes customers in Canada can’t use gift cards to purchase apps from the app store.  Seems that this might be in violation of Canadian law as such terms must be disclosed on the packaging so that consumers know the full story before purchase.  This little tidbit of information is only available on the iTunes website.

Update 5/26/10:  Faced with the option, by Canadian law, of either allowing iTunes gift cards to purchase anything, or update their gift card packaging to indicate the gift card’s limitations, Apple has chosen to allow iTunes gift cards to purchase apps from the app store.  Perhaps this is only a temporary remedy until they can update their gift card packaging for Canada, or perhaps the change is permanent.  Still no explanation why these gift cards couldn’t purchase apps in the first place.