Description

how is estimated gift card breakage recorded ?

**Understanding Gift Card Breakage: A Comprehensive Guide**

**Introduction**

Gift card breakage, the phenomenon where a portion of gift cards are never redeemed, is a significant consideration for businesses. This guide explains how companies account for and estimate this breakage, ensuring accurate financial reporting and compliance with regulations.

**What is Gift Card Breakage?**

Gift card breakage occurs when customers fail to redeem all or part of their gift cards. This unused portion remains a liability on the company’s books until it is either redeemed or recognized as breakage revenue.

**Accounting for Gift Card Sales**

When a gift card is sold, the company records the sale as a liability, not immediate revenue. Upon redemption, the liability is reduced, and revenue is recognized. For unredeemed portions, companies estimate breakage to reflect the revenue they do not expect to fulfill.

**ASC 606 and Revenue Recognition**

The ASC 606 standard provides guidelines for recognizing revenue, including breakage. Companies estimate breakage based on historical data, applying these rates to their current liabilities to recognize revenue proportionally.

**Recording Breakage in Accounting**

The accounting process involves:

1. **Liability Recognition**: Recording the gift card sale as a liability.
2. **Redemption**: Reducing the liability and recognizing revenue when the card is used.
3. **Breakage Estimation**: Using historical data to estimate unredeemed portions, then adjusting the liability and recognizing the estimated breakage as revenue.

The typical journal entry involves debiting the gift card liability and crediting the revenue account for the estimated breakage amount.

**Factors Influencing Breakage Rates**

Breakage rates vary based on factors such as:

– **Card Amount**: Higher denominations might see lower redemption rates.
– **Store Type**: Luxury stores may have lower redemption rates compared to everyday retailers.
– **Time of Year**: Holiday seasons might see different redemption patterns.

**Legal Considerations: Escheatment Laws**

Some states require companies to transfer unredeemed gift card balances to the state after a certain period. Businesses must balance recognizing breakage revenue with complying with these laws.

**Best Practices for Estimation**

– **Historical Data**: Use past redemption patterns to estimate breakage.
– **Regular Review**: Update estimates based on trends and industry changes.
– **Accuracy**: Ensure estimates are realistic to avoid financial misstatement.

**Impact on Financial Statements**

Accurate breakage estimation ensures liabilities are not overheld and revenues are appropriately stated, maintaining the integrity of financial statements.

**Conclusion**

Gift card breakage is a crucial aspect of financial management. By understanding the accounting processes, estimation methods, and legal considerations, businesses can effectively manage breakage, ensuring compliance and accurate financial reporting. Regular reviews and updates to estimation models are essential for maintaining financial health.