The evolution of gift card fraud

Stephen Ufford, CEO of Trulioo examines the trends and evolution of gift card fraud and how merchants can aim to prevent the transactions

Blockbuster introduced the first gift card payment infrastructure in late 1994, issuing what was similar to paper-based gift certificates first and then replacing them with gift cards after they became too easily counterfeited with the introduction of colour copiers and printers. Gift card fraud has since come a long way, and criminals have gotten savvier along with the progression of technology.

Criminals are exploiting the gift card loophole to commit financial fraud for a myriad of reasons, including money laundering, and as a way of moving illicit funds by drug cartels and terrorists. In the U.S., $24 billion in cash is allegedly smuggled into Mexico each year by drug cartels, some of it on prepaid cards; in Canada, authorities estimated that organized crime is using the gift card loophole to launder money to the tune of somewhere between $5-billion and $55-billion a year.

The use of gift cards is growing steadily, with more than $623 billion loaded on gift cards and other types of prepaid cards in the United States in 2015. As the industry continues to grow and gift cards continue to be a popular gifting option for consumers, criminals are also cashing in. Why is gift card fraud so alluring for criminals? There’s no one answer, but a combination of factors that have been brewing the perfect storm for the rise of gift card fraud.

The rise of gift card fraud

Gift card fraud is attractive to criminals for a myriad of reasons. Firstly, there’s relative anonymity without the need for buyers to disclose their identity. This makes it easy to store money on a gift card without leaving a trace. Unlike banks and financial institutions that have a legal obligation to disclose transactions involving in excess of $10,000 to authorities, gift cards are not considered monetary instruments. Therefore, there is no requirement for merchants or sellers of gift cards to track, record or report suspicious transactions. A loaded gift card can be brought across international borders without declaration, and have no legal repercussions or have the gift card seized by authorities.

Secondly, the scale of money laundering has become a global trillion dollar epidemic; the vast scale of the problem mean that regulators are looking for movements of vast sums of money. Gift cards typically have a credit limit, therefore can only move money in smaller increments. 

Lastly, gift cards can be easily converted into cash. Criminals are buying out gift cards in bulk, and selling them on marketplaces for a discount; in return, they receive a legitimate check from a gift card marketplace. It does not trigger any flags, making it a low-hanging fruit for criminals. Five percent is not a large sum in exchange for a low friction, low-cost way to move money away from the watchful eyes of regulators.

What is the solution?

Although the gift card loophole is a growing concern, casting sweeping regulations to tighten the industry and requiring customers to jump through hoops to purchase gift cards may not be the answer. In addition, the vast majority of gift card crimes are in small amounts, and imposing cost-prohibitive rules will be cumbersome not only for merchants but for legitimate customers.

However, there’s no question that reforms and immediate action need to be taken to stem the flow of illicit funds within the gift card sector. Regulatory Technology (RegTech), a new breed of fintech that helps companies to meet their regulatory obligations, is leading the charge in offering a range of innovative tools for small businesses and merchants to counter online and Card-Not-Present (CNP) fraud. 

The emergence of regtech has broadened the availability of previously cost prohibitive enterprise class tools that were once only available to banks – to small businesses, retailers or e-Commerce businesses. Small merchants are increasingly targets for criminals as they are less equipped in preventative measures against gift card fraud than large merchants. Regtech commonly taking the form of either SaaS or a cloud-based solutions eliminates the huge upfront costs and complex software implementations, making it more accessible broadly. 

Merchants: Know your customer to reduce fraud

Merchants and retailers that integrate electronic Identity Verification tools are able to verify the identity of the cardholder and check it against fraud and AML watchlists upon online registration. For example, a retailer can verify the full name, address, and date of birth of the cardholder by checking the customer data against records from credit bureaus, government, utility files, telecommunications and other reliable data sources.

By checking against the records, a positive and seamless ID verification process can keep legitimate customers happy, while shutting out criminals. This also helps the merchant prevent being hit by chargeback costs and cancel the order if they feel any transaction may be fraudulent.

As gift cards become increasingly popular, merchants will continue to struggle with dealing with gift card fraud and suffering losses through chargebacks. They are in a tough spot as they are liable for fraud charges if they unwittingly open the doors for fraudsters to money launder or commit fraud on their site. There’s no one solution for the problem, but one thing is clear — the gift cards as a loophole for online fraud and money laundering is a gift that keeps on giving for criminals.

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