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Why retailers love gift cards but you shouldn't

By Morgan Quinn/GOBankingRates

What is the perfect holiday gift? It's not the latest smartphone, it's not a cashmere sweater and it's definitely not a fruitcake. The top item on consumers' holiday wish lists is -- believe it or not -- a gift card.

According to the National Retail Federation, gift cards top the list for the eighth year in a row, and gift card purchases in 2014 will beat all previous records, reaching nearly $32 billion. The most popular gift card purchases this year are for department stores, with restaurants coming in at a close second, followed by coffee shops, entertainment and electronics.

For the recipient, gift cards are the perfect gift: They always fit, duplicates are more than welcome and they never need to be exchanged. For the buyer, gift cards are a no-hassle way to wish someone happy holidays: They're practical, easy to wrap and ship, and eliminate the decision-making process.

Gift cards feel like free money presented in a pretty little card with no strings attached. Except, there's no such thing as a free lunch and gift cards are no exception. This seemingly convenient gift is one of the ways retailers try to trick consumers into spending more -- and it works.

From the standpoint of retailers, the gift card is an ingenious money maker: It's a completely free tactic that brings new and old customers in the door, gets more eyes on their merchandise and encourages shoppers to spend. And spend they do: In 2014, retail purchases made with prepaid cards (including gift cards) will reach $200 billion, about 5 percent of all retail spending in the U.S.

Once customers are in the door with gift cards in-hand, about half of them will spend more than the card is worth, about 20 percent more when using a $50 gift card, according to Investopedia. Even if consumers manage to spend just a few dollars over, those dollars translate to millions in profits, company-wide. And customers who come in just a few dollars under the card's value are enticed to come back for a repeat visit, where they will surely need to spend more to exhaust the leftover funds on the card.

What's more, many customers never use their gift cards at all; almost one-third of consumers who receive gift cards don't use them, according to Consumer Reports. When a retailer collects money right away and issues a store credit that is never exchanged for goods, this also translates to pure profit for the business.

There are virtually no downsides for the retailer who offers gift cards -- consumers are the ones who take the hit.

How to avoid the gift card spending trap

If you received a gift card this holiday season, here are some tips on how to make the most of your store credit and avoid the spending trap.

1. Use your cards right away.

The easiest way to make sure you don't forget about your gift card is to use is as soon as possible. Gift cards also don't protect against inflation, which means they will lose value over time. Brian Riley, senior analyst for bank cards with the Tower Group, told the E-Commerce Times, "Through dormancy fees and abandonment, unused funds will run about $8 billion." Use your cards right away to make sure you get every penny of credit you deserve.

2. Trade in your smaller cards.

Spending just $5 or $10 at a store is almost impossible. Turn your small-dollar gift cards in for something better to avoid overspending. Sites like and allow consumers to sell their gift cards for cash or trade them with others. (Here are some helpful tips on how to get the most cash for your unwanted gift cards.)

3. Know the terms and conditions.

Time limits used to be a problem for consumers; oftentimes gift cards would have short expiration dates, like 12 months or less. As of 2010, however, cards cannot expire within five years of the date they were activated and inactivity fees are more limited, except in certain circumstances, per the Federal Trade Commission. Still, there are other fees associated with some of these cards, including transaction or balance inquiry fees, which can eat up your credit. Know the terms for your particular card so you don't miss out on every cent you deserve.

4. Think of the card as cash.

Consumers are 2.5 times as likely to pay full price for an item when using a gift card. Like credit cards, gift cards make shoppers feel slightly less attached to the transaction ("it's not real money!"), causing them to spend more. Think of your card as cash ("it is real money!") to keep you honest about how much you are actually spending.

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