Are reward points legal in India?
To increase customer loyalty, e-commerce entities award reward points to their customers, which may later be redeemed by the customers on their platform. Reward points may be awarded based on a calculation matrix developed by the company or by undertaking activities solely based on a matter of chance, such as lucky draws; lotteries or playing games on the platform.
Regulations governing Prepaid Payment Instruments ("PPIs")
PPIs are instruments that facilitate purchase of goods and services, financial services, remittance facilities, etc., against the value stored therein and are governed by the Master Directions on Prepaid Payment Instruments, 2017 ("Regulations") issued and amended by the RBI from time to time.
Closed System PPI is a subcategory of PPIs issued by an entity for facilitating the purchase of goods and services from that entity only and do not permit cash withdrawal. These PPIs cannot be used for payment or settlement for third party services. The issuance or operation of such PPIs is not classified as a payment system requiring approval or authorization by RBI and are, therefore, not regulated or supervised by RBI.
For transactions undertaken by e-commerce entities by the issuance of reward points, where there are no third parties involved and the reward points issued can be redeemed only on the platform of the e-commerce entities, would amount to a 'Closed System PPI' and will neither be regulated by the Regulations nor shall require any authorization from the RBI. However, the same shall be subject to certain tax implications.
Regulations governing prize distribution
The issue with validity of reward points arises where the calculation of the reward points is based on some game played on the platform or by any manner which may involve a factor of ‘chance’ or ‘luck’.
Prize distribution, betting and gambling are subjects of the state list, and each state has a different law pertaining to the same. While all other states allow prize competition, the state of Tamil Nadu has enforced the Tamil Nadu Prize Schemes (Prohibition) Act, 1979 (“Act”) which does not permit any scheme whereby any prize or gift is offered to a purchaser determined by lot, draw or in any other manner. Prize scheme is defined as any scheme whereby any prize or gift (whether by way of money or by way of movable or immovable property) is offered, or is proposed to be given or delivered to one or more persons to be determined by lot, draw or in any other manner from among persons who purchase or have purchased goods or other articles from shops, centres or any other place whatsoever specified by the sponsors of the scheme or on any event or contingency relative or applicable to the drawing of any ticket, lot, number or figure in relation to such purchasers.
The literal interpretation of the definition was given in the recent Supreme Court case of State of Karnataka v/s State of Meghalaya wherein it was explained that prize schemes inherently have an element of 'chance' in the manner in which the result thereof is determined. While the courts have stated that the definition covers only prizes distributed in manner that have an element of 'chance' and wherein ‘no skill’ is involved, the ambit of the definition is broad, and there are no concrete precedents to rely on the same.
Thus, e-commerce entities should provide clear reasoning for providing the reward points so as to remove any ambiguity of involvement of an element of 'chance' or 'luck' in the providing of the reward points. In practice, various businesses such as Myntra expressly carve out exceptions in their terms and conditions stating that certain schemes pursuant which reward points offered are not applicable in Tamil Nadu.
 Section 2 (b) of the Lotteries (Regulation) Act, 1998 defines "lottery" as a scheme, in whatever form and by whatever name called, for distribution of prizes by lot or chance to those persons participating in the chances of a prize by purchasing tickets.  https://rbi.org.in/scripts/NotificationUser.aspx?Mode=0&Id=12156  Section 2 (b) of the Tamil Nadu Prize Schemes (Prohibition) Act, 1979  MANU/SC/0351/2022