Gift certificates
Gift certificates typically represent a non-refundable pre-payment to an entity that gives the customer a right to receive goods or services in the future and obliges the entity to stand ready to transfer the goods or services. The core principle of IFRS 15 is the timing of revenue recognition which depends on the timing of the fulfillment of promises by the entity. Revenue should be recognized when an entity satisfies a performance obligation by transferring a promised good or service to the customer.
In this case, the entity satisfies its performance obligation when the customer redeems the gift card and the entity supplies the associated goods or services to the customer.
Accordingly, upon receipt of a pre-payment from a customer, the entity should recognize a contract liability for its performance obligation to transfer, or to stand ready to transfer, the goods or services in the future.
The entity should de-recognize that contract liability and recognize revenue when it transfers those goods or services and, therefore, satisfies its performance obligation.
Performance Obligation
Gift Card itself is not a performance obligation. Rather, it is a pre-payment for the future delivery of goods. The money for the gift card is received and the delivery of goods shall be made when another person uses the gift card to pay.
Hence, the sale of gift cards is not accounted for in revenues straight up.
Then, how to account for the gift card upon sale?
The answer is to account for them as a contract liability. Gift cards are, in other words customer’s unexercised rights that will be exercised in some future point. There are two dates to be considered during the accounting for gift cards:
- The date of the purchase of the gift card – prepayment received by the entity i.e., contract liability.
- The date the gift card is redeemed – goods transferred to the customer i.e., Revenue recognisition.
When the customer visits and pays for a purchase with the gift card (redemption), the contract liability is removed and revenue is recognized, the reason being the satisfaction of the performance obligation by delivering the goods to the customer upon submission of the gift card.
Let’s see the chromoly of the accounting below:
- Upon customer prepayment (issue of gift card to the customer), a contract liability is recognised, but not revenue.
- Revenue is recognised when the promise is fulfilled (redemption of gift card by the customer).
- If the customer does not redeem the gift card (exercise the contractual rights), those rights are referred to as breakage (discussed in detail below).
- In case of breakage, the entity may or may not be obliged to refund the customer for the amount prepaid for those rights, depending on the contract.
- If the entity enjoys no refund obligation, the entity recognises revenue based on expected breakage, in proportion to the pattern of rights exercised by the customer.
- If the entity does not expect to be entitled to a breakage amount, the entity recognises revenue from breakage when the likelihood of the customer exercising its remaining rights becomes remote.
- If the entity needs to refund the prepayment in the event that the customer does not exercise the rights, revenue from breakage is not recognised at any point, but rather, the liability is refunded.
How revenue is recognized from unexercised services?
It is recognized as revenue in proportion to the pattern of rights exercised by the customer.
For a gift card, if it is for a single use only, revenue is recognized when the customer uses it. Whereas if the customer can use it for multiple payments, revenue is recognized proportionately.
What happens if the gift card is not redeemed?
In case a gift is not redeemed, the revenue from it should be recognized when the likelihood of the customer redeeming the same becomes remote, or in other words, the customer is least likely to come and exercise his/her right i.e., purchasing goods and paying for it with a gift card.
If the gift cards have a validity, the revenue shall be recognized upon the lapse of the said period of time. If the gift cards have no validity period or have a lifetime validity, then assessment is required on how much time needs to pass before the customer forget about unused gift cards and never come.
Gift certificates sold by a retailer can be used by the holder to purchase goods up to the amount indicated on the gift certificate. The retailer should assess when to recognise revenue in respect of those gift certificates.
Revenue is recognized when an entity satisfies a performance obligation by transfer of goods or services to the customer. As in the case of a gift card, performance obligation is satisfied when the customer redeems the gift card and the entity delivers the good or service.
At times, customers may not redeem their gift cards for various reasons. This, under IFRS 15 is referred to as breakage. The revenue arising from the breakage can be recognized before the entity is legally released from its obligation under certain circumstances, some of which are as follows:
In case a gift is not redeemed, the revenue from it should be recognized when the likelihood of the customer redeeming the same becomes remote, or in other words, the customer is least likely to come and exercise his/her right i.e., purchasing goods and paying for it with a gift card.
If the gift cards have validity, the revenue shall be recognized upon the lapse of the said period of time. If the gift cards have no validity period or have a lifetime validity, then assessment is required on how much time needs to pass before the customer forgets about the unused gift cards and never redeems them.
Free gifts
Free gifts are a separate performance obligation that needs to be accounted for separately and a portion of the selling price would have to be allocated to the gift. When revenue on the ‘primary’ performance obligation is recognized over time, this can result in earlier revenue recognition on a portion of the selling price relating to the free gift.
Free services
When a retailer offers free services as part of the sale of their product, the service component should be accounted for separately. A portion of the selling price is allocated to the service component and only recognised when the service/maintenance is performed. This would delay revenue recognition on a portion of the selling price.
The following simple example illustrates accounting for typical gift card situations that have an expiry date, and the entity is not obliged to refund the amount prepaid for breakage.
ABC is a perfumery shop and began to offer gift cards to customers as from 1 July 2018. The company has a 31 December financial year-end.
Other information:
Gift card redemption period (validity): 1 year. Gift cards issued on 1 July 2021: €300. Gift cards issued between 2 July 2021 and 31 December 2021: €0. Redemptions made up to 31 December 2021: €180. Expected breakage on 1 July 2021: 5% of the value of gift cards issued. Expected breakage on 31 December 2021: 5% of the value of gift cards issued.
So, how this situation is accounted for?
Upon receipt of consideration for the gift cards on 1st July in this case:
| Dr/Cr | Particulars | Amount |
| Debit | Cash | CU 300 |
| Credit | Contract liability | CU 300 |
Once the expected breakages are estimated as at the reporting date, the estimated breakages on consideration received during the period can be calculated.
| Estimated breakages = Expected breakages * Consideration received |
= 5% * CU 300
= CU 15
The release of revenue at year-end from the contract liability as of reporting date is as follows:
| Dr/Cr | Particulars | Amount |
| Debit | Cash | CU 189 |
| Credit | Contract liability | CU 189 |
Why are we releasing CU189 and not the amount redeemed (CU180)?
The reason is that we need to take our expected breakages into account. As per IFRS 15, Para. B46, “If the entity expects to be entitled to a breakage amount in a contract liability, the entity shall recognize the expected breakage amount as revenue in proportion to the pattern of rights exercised by the customer”.
The €189 of revenue released has two components:
€180 representing the selling price of goods redeemed.
€9 for expected breakages. Upon every redemption, the entity recognizes additional revenue to the selling price of the goods redeemed, since there is an expectation that some of the overall consideration received during the period will not be redeemed. The €9 is computed as per below:
Additional Revenue = [Estimated Breakages * (Total Redemptions Made / Total Gift Cards Issued)
= 15 * 180/300
The breakages in this contract are those situations whereby the customer paid consideration but did not follow up on his rights by redeeming the gift. To compute the adjustment to contract liability and revenue representing expected breakages, in this example we would calculate [Total Breakages * (Redemptions/Gift Cards Issued)], which is equal to €15 * €180/€300.
The breakage estimate would typically need to be adjusted at every period-end, and adjustments would need to be made accordingly.
