Steam – What would happen if a steam gift is decline but the recipient doesn’t already own the game

I agree with corroded that you should just give them the key, but to answer your question:

If you purchase a copy of a game you already own, you may or may not receive a giftable copy to give to someone else. According to Valve, the only cases where you get a giftable copy are:

1. Users who own Left 4 Dead and then go on to purchase "Left 4 Dead + Left 4 Dead 2 Bundle" will receive an extra copy of "Left 4 Dead"

2. Users who own Half-Life 2 and go on to purchase “The Orange Box” or the "Valve Complete Pack" will receive an extra copy of “Half-Life 2”.

3. Users who own Half-Life 2: Episode One and then go on to purchase the "Half-Life 2: Episode Pack”, “Valve Complete Pack” or “The Orange Box” will receive an extra copy of “Half-Life 2: Episode One”.

4. Users who own Dawn of War II and then go on to purchase "Dawn of War II Gold Edition" will receive an extra copy of "Dawn of War II"

5. Users who purchase the available four packs for specific Steam titles will receive three extra copies of that title to gift to friends.

6. Extra copies may apply as a part of some limited time promotions. In that case, information on what will be included with your purchase will be listed on the storefront's transaction page.

When trying to activating a Game you already own (or a bundle you already own parts of), Steam will warn you in a popup which game/parts won't be added to your library. You then have the choice to cancel the activation.

A declined gift will be returned to the owner's gift inventory, from where it can be gifted again.

Valve generally does not grant refunds in this case, as Steam already tells the user if the gift target already owns the game.