Navigating the Gift Card Breakage Standards

Around two-thirds of American consumers have purchased at least one gift card, and with the surge in e-commerce, online gift card sales are growing at approximately 29% per year. However, about 40% of gift card recipients do not use the total value of their cards. As gift card purchases continue to grow, unredeemed gift card liability balances have been increasing year over year, and retailers are evaluating the best way to treat their unredeemed gift cards.

The FASB recently issued ASU 2016-04, Recognition of Breakage for Certain Prepaid Stored-Value Products, to address accounting for gift cards and other prepaid stored-value products that are not expected to be redeemed by customers. This update requires companies to apply the breakage method described in the new revenue standard in ASC 606, Revenue from Contracts with Customers.  The guidance allows companies to recognize an estimate of the amount of value on the card that is not expected to be redeemed currently in earnings, rather than waiting until the company is legally released from the liability.

Unless addressed by other guidance, a retailer can apply the breakage method and derecognize the liability, only if a significant reversal of the recognized breakage amount is unlikely to occur. Retailers must have sufficient evidence to support this assertion, and will likely find that their historical redemption trends are the best evidence of amounts not expected to be redeemed. The guidance requires companies to update their estimate of breakage at the end of each reporting period, and disclose the methodology used to calculate breakage and any significant judgments made.

When applying the new standard, it is important to determine whether the liability is subject to unclaimed property laws or if it’s attached to segregated bank accounts, such as consumer debit cards. In these instances, any unredeemed balances must be escheated to the applicable state government, and therefore the liability cannot be extinguished. Determining whether breakage liabilities are subject to unclaimed property laws is a legal question, and may require judgment as these laws often vary by state. As a result, the retailer could have multiple breakage liabilities that are accounted for differently. In addition, the new standard doesn’t apply to customer loyalty programs or other transactions that are within the scope of other generally accepted accounting principles, including Topic 606.

This update is effective for fiscal years beginning after December 15, 2017 for public entities and is effective for all other entities for fiscal years beginning after December 15, 2018. Early adoption is permitted. As such, the entity will adopt the new guidance either retrospectively to each period presented, or using a modified retrospective transition method by means of a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year in which the guidance is effective.

The FASB standards provide necessary guidance to the treatment of unfulfilled gift cards or pre-paid stored value products, and outline the procedures by which retailers can adopt this new guidance. For more information on these standards, refer to BDO’s FASB Flash Report here, or the full ASU here. For timely information on transitioning to ASC 606 and applying it to your organization, visit BDO’s Revenue Recognition Resource Center here.  

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