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What are Open Loop Versus Closed Loop Gift Cards?

Gift Card Girlfriend answers the gift card questions you’ve been asking.

What’s the difference between open loop and closed loop gift cards? The simple answer to this question, from a consumer perspective, is that open loop gift cards (think Visa® gift cards) can be used almost anywhere. Closed loop gift cards (such as Starbucks gift cards) can only be used at the issuing merchant.

itunes gift card
photo credit: colemama via photopin cc

There are two traditional types of gift cards–open and closed loop. However, as the $200 billion dollar gift card industry expands, hybrid solutions (as I call them) are emerging as a third category.

Closed Loop

Closed loop gift cards can only be redeemed at the merchant listed on the card. Starbucks gift cards and Amazon gift cards, for example, are “closed” because they can only be redeemed at Starbucks and Amazon.com, respectively. Sometimes you’ll see a set of gift cards that can be used within a family of stores. Gap gift cards are redeemable at Banana Republic, Old Navy, Baby Gap and other stores owned by the same parent company. Though redeemable at a variety of merchants, these “related” gift cards are still closed loop because they can only be processed (activated, redeemed, supported) via the parent company’s gift card program.

Pros: Closed gift cards are typically free to activate, meaning you only pay the dollar amount that you load onto the card. Restaurants and retailers rarely charge activation fees because they don’t need to make money on the sale of the gift card itself. These merchants make money on their gift card programs when customers redeem the gift cards (making a profit on the products or services sold), overspend the value of their gift cards (selling more merchandise than originally hoped for) or fail to spend the full value of their gift cards (leaving unspent dollars in merchant hands for a period of time). NOTE: Laws about unspent gift card dollars vary by state.

Cons: If you don’t want merchandise from the issuing retailer or redeeming the gift card presents a challenge (e.g. no nearby locations), then you will have to find alternative ways to use the unwanted gift card.

Open Loop

Open loop gift cards can be redeemed almost anywhere because they run on the various credit card systems. Visa gift cards, for example, can be redeemed in stores, online or via telephone, wherever Visa is accepted.

Pros: Open gift cards are widely available and recipients can use them at restaurants, clothing stores, grocery stores and more. They can even be used to pay non-recurring bills. Open loop cards are almost as flexible as cash.

Cons: Open cards typically require payment of an activation fee because that is where the gift card company (plus bank and processor) makes money. Since there is no merchandise to buy or value to overspend (as is the case with a store’s gift card program), the up-front fee is the bulk of the return on selling this type of gift card. I like to think of the activation fee as a small price for freedom–the amount I’m willing to spend in order to give the recipient the ability to choose where he or she wants to shop.

Also, some older credit card processing terminals, such as those you might see in a small shop, still handle gift cards as though they are credit cards – putting holds (or pre-authorization amounts) on the gift cards when they are first swiped. While a credit card typically has a balance that can accommodate a pre-authorization swipe plus the final sale, a gift card might not. Although a nuisance, the problem will disappear over time as processing terminals are upgraded to properly handle gift card transactions.

Hybrid

At GiftCards.com, we sell name brand gift cards that can be personalized. (They’re very cool.) I call this a hybrid solution because the card is technically open loop in that it runs on the Discover network, but we programmatically make it only redeemable at the store or restaurant listed on the card.

Pros: You can order gift cards for the national merchants you like and have the option to personalize these cards with photos and messages. That’s something you really can’t do with the typical store gift card. Plus, there are no activation fees.

Cons: Although selection is limited to the merchants signed up for our service, the number of participants is growing.

Which is Best?

Which gift card is best all depends on your gifting needs. Open loop gift cards are a nice solution when you don’t know the recipient very well or when you simply want someone to have a wide range of buying options. With our personalization feature, these gift cards are truly among my favorite gift cards. Closed loop gift cards, on the other hand, are a nice choice when you know the recipient’s buying habits quite well and are certain he or she will really enjoy having the card selected. National brand gift cards are a good compromise when you know the recipient’s personal taste but still want the convenience of ordering online plus the option to customize.

Whichever gift card you choose, just remember that what it’s called is less important than how it functions. Always give a gift card that is easy for the recipient to redeem–whether that’s a local gift card for a coffee shop near the recipient’s office or a Visa gift card that can be used anywhere. As long as the gift card can be conveniently used, the exchange will be a positive experience for everyone involved.

Happy Gift Carding!

~ Gift Card Girlfriend

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