Regulators Closely Watch Stored Value Cards

By Trygve E. Kjellsen

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During the past two years both federal and state regulators have been taking a closer look at stored value cards. Federal regulators view stored value cards as a potentially dangerous tool for terrorists and other criminals, as they can be used covertly to transfer and send large amounts of money. On the state level, concerns have been triggered primarily by card providers imposing expiration dates and dormancy fees on the cards without notifying consumers, possibly violating state consumer protection laws. As a result, numerous states have now either proposed or adopted legislation governing gift cards.

This article will review some of the state gift card legislation, which generally applies to closed-loop cards that are sold by a single merchant and can be used to purchase goods and services in the merchant’s stores, and will also briefly outline the main federal regulations that may apply to both closed- and open-loop cards. Open-loop cards are generally issued by a bank and can be used at many merchant locations. These cards carry such familiar logos as Visa, MasterCard, American Express and Discover.

State Gift Card Legislation

State gift card statutes vary widely, as can be seen from a review of four states’ gift card laws adopted in just the past five months.

Kentucky

Kentucky’s gift card statute prohibits gift cards that expire within one year of the date of sale. The statute permits dormancy fees—a monthly fee on remaining balances—after one year. Prepaid calling cards are excluded from this statute. Nor does the one-year expiration date requirement apply to cards that are distributed pursuant to an awards, loyalty, or promotional program; sold by a nonprofit or charitable organization for fundraising purposes; or a card given by an employer to an employee if the use of the card is limited to the employer’s business.

Ohio

Ohio prohibits gift cards that have expiration dates less than two years after the date of sale. After this two-year period it is permissible to impose a service charge or a dormancy fee if the card has not been used in the previous two years. The Ohio statute explicitly excludes open-loop cards that are accepted by multiple, unaffiliated merchants.

New Jersey

New Jersey’s gift card statute is similar to Ohio’s in that it prohibits an expiration date that is less than two years from the date of sale. It also provides that dormancy fees can be imposed after the expiration date, or two years following the most recent activity on the card. The dormancy fee cannot exceed $2 per month. Also, the expiration date, the dormancy fee, and a telephone number that the consumer can call to check on the expiration date must be printed in at least 10-point type on the card, the sales receipt, or the card carrier. This statute does not apply to prepaid phone cards, prepaid bank cards (i.e., open-loop cards), or rewards cards.

Oklahoma

The Oklahoma statute was signed by the governor on April 17 of this year. Of the four states, Oklahoma’s gift card statute has the longest expiration requirement with five years from the date of sale. Dormancy fees can be applied to the card, provided the card contains a statement in at least 10-point type stating the amount of the fee, how often the fee will be imposed, that the fee is triggered by inactivity, and at what point the fee will be charged. The dormancy fee cannot be charged unless the value of the card is $5 or less and the fee cannot exceed $1 per month. Also, the card must be inactive for twenty-four consecutive months; and the card must be reloadable. Fees are not allowed on non-reloadable cards.

The statute has similar expiration date exclusions as the laws of Kentucky and Ohio. However, the statute does not explicitly exclude open-loop cards. Such exclusion may have been intended, since the statute defines a gift card as being a plastic card that can be used to purchase goods or services only at a single merchant or group of merchants that are affiliated through common corporate ownership or control.

Although these statutes have commonalities, there are also differences between each of them. For instance, it is not entirely clear that a franchisor’s closed-loop gift card program, such as a gift card program of a national quick service restaurant chain, would fall under the Oklahoma statute if the stores are owned by entities other than the franchisor.

State Escheat Laws

Escheatment generally means that an entity that holds abandoned property that is not claimed by the owner after a given period of time must turn that property over to the state. Although some states’ escheat laws do not specifically include gift cards, most statutes include “catch-all” language that will cover gift cards. As with state gift card legislation, escheatment laws differ from state to state. On the bright side, some states have enacted or introduced legislation that exempts certain types of gift cards from their escheat laws, and some states exempt gift cards if the remaining value on the card is below a certain dollar amount.

Due to the lack of uniformity on the state level with respect to both gift card legislation and escheat laws, it is critical for each gift card issuer, processor, bank, and reseller, to carefully review the laws in each state in which the program will operate.

Federal Laws

Federal regulators have been somewhat hesitant to impose rules for fear of impeding growth and innovation, but the prepaid industry can expect new proposed regulations in the near future. In fact, the Financial Crimes Enforcement Network (FinCEN), a bureau of the U.S. Department of the Treasury, has indicated that new anti-money laundering rules covering stored value cards will be proposed during the first half of this year under the Bank Secrecy Act and its Anti-Money Laundering rules. These new proposed rules are likely to be focused on open-loop cards because they can be used more widely than store gift cards and would be more useful as a way to covertly transfer money.

In addition to the Bank Secrecy Act, gift card providers must consider the Patriot Act, regulations of the Office of Foreign Assets Control (OFAC), which prohibits any U.S. person from dealing with certain entities and persons listed on OFAC’s “specially designated and blocked persons” list, which consists of people or entities that may have terrorist connections, and Regulation E. Gift card providers should screen private information against the OFAC list to avoid liability for dealing with people or entities that have ties to terrorism. Regulation E is part of the Electronic Funds Transfer Act, which governs consumer rights with respect to electronic funds transfers.

Conclusion

New federal regulations are likely to be proposed this year. Certain members of Congress have also made inquiries about consumer disclosures regarding gift cards. These inquiries and new federal regulations, a product of the stepped-up efforts to thwart terrorists, could lead to federal investigations of closed- and open-loop cards. The result could be additional obligations on merchants, banks, processors, and resellers of all types of stored value cards.

Federal and state regulation can severely limit the profitability of stored value card programs. For example, requirements for extensive background checks and suspicious activity reporting would require added staff and an enhanced infrastructure. Putting those two elements in place would increase costs and cut into potential profit.

Thus, those with a stake in this business will want to carefully review and follow any proposals for new regulation and make every effort to persuade lawmakers and regulators to steer clear of proposals that would severely limit stored value card programs.

Originally published in Prepaid Trends, April 26, 2006, Vol. 1, No. 6. Reprinted with permission.