Gift cards have been charting phenomenal growth, with year-over-year sales exceeding 20 percent by many estimates. Such meteoric increases have raised concerns in some quarters, however. With sales expected to top $100 billion this year and unused gift card balances running at a rate of about 10 percent, state and federal agencies are examining
more closely the policies and  practices of companies selling gift cards and seeking ways to tap into this burgeoning revenue stream to bolster state coffers.

The programs can pose unexpected risks, especially when retailers start selling gift cards on behalf other businesses, says Catherine Fox-Simpson, a partner at Dallas-based accounting and consulting firm BDO Seidman. “There’s a litany of issues that can come up when you have more than one person handling your gift cards,” she says. “You’re handing over a valuable asset” when you hire a third party to sell your company’s gift cards. “You had better make sure it’s safe.”

Michael Berman, COO of Outside Ventures, which owns and operates Tribul Merchant Services, has worked with merchants that have improved cash flow by as much as 75 percent in less than a year with gift card programs that are managed and promoted well. But it’s not a given, he warns.

“At first glance it seems like a natural,” Berman says, “but there are a lot of unknown elements,” especially when it comes to accounting. “I don’t think anybody fully understands the accounting issues” associated with gift card sales. Hiring a qualified third party to manage and support a gift card program on the backend can help mitigate potential nightmares, he says.

Charles Owen Kile Jr., a professor of accounting at Middle Tennessee State University, believes that accounting for gift cards poses serious dilemmas for retailers and their shareholders. Unresolved issues related to the reporting of gift card sales and breakage “potentially encroach upon several accounting regulations, including standards for revenue recognition and the recognition of special items,” he wrote in a November 2007 report published by the American Institute of Certified Public Accountants.

Kile’s analysis of the FY 2006 10-K reports of 167 retailing companies reveals significant variations in the reporting of gift card sales and breakage. For example, he found that only one-third of the companies provided details of gift card liabilities, usually as footnotes; only nine listed card liabilities as separate balance sheet line items. The most common practice was to lump gift card liabilities into an “accrued expense or other liability” category, according to Kile, and only one company disclosed current year gift card sales totals.

The SEC hasn’t taken a pubic position on gift card accounting, except to advise that immediate recognition of revenues from gift card sales is not considered to be in keeping with generally accepted accounting principles. Kile warns, however, that gift card reporting is likely on the agency’s radar. Past SEC behavior “suggests that the staff will at least encourage retailers to be more open about their treatment of gift card transactions,” he wrote.

States eye unspent balances
Currently, 13 states prohibit expiration dates on gift cards, according to Bankrate.com, which surveys the gift card market annually. Most other states set minimum expiration periods.

A new California law requires retailers in that state to redeem unused gift card balances for cash when balances are less than $10. The law applies to single-merchant cards sold after Jan. 1, 1997: Gift cards branded by the major card companies, mall cards, gift cards issued for perishable food items and those distributed as part of loyalty or other rewards programs are specifically exempted. A similar law enacted in Washington State permits cardholders to cash in dormant gift cards, less dormancy/inactivity fees.

A 2007 report from Comdata shows that, as cards grow in popularity, cardholders are leaving bigger balances on them. Its survey of adult gift card recipients reveals that consumers who leave value on gift cards — about 40 percent of all cardholders — left an average of $2.30 unused on cards in 2007, compared with $1.60 in 2006.

TowerGroup, a Boston-based research and consulting firm, estimates that gift card balances totaling $8 billion were sitting unused in 2006. That’s a tempting pot of cash. “With the economy the way it is, you can expect that states will be looking a lot more closely at this [money] as a source of potential revenues,” Fox-Simpson says.