Proposed Failure to Prevent Fraud Offence

Proposed Failure to Prevent Fraud Offence
Legally reviewed by: Laura Smith In: Corporate & Financial Crime

The long-awaited Failure to Prevent Fraud Offence proposals have been officially released by the government. These proposals aim to establish a new corporate offence for a failure to prevent fraud. The amendments introducing these proposals are part of the ongoing process of the Economic Crime and Corporate Transparency Bill in the House of Lords.

The proposed amendments fulfil a commitment made by Tom Tugendhat MP, the Security Minister, to the House of Commons, regarding the government’s intention to address the necessity for a “failure to prevent” offence.

How Does the Government Plan to Reduce Fraud?

The government’s goal is to reduce fraud. As it stands, fraud accounts for 41% of all criminal activity. The new proposals have been welcomed by Lisa Osofsky, Director of the Serious Fraud Office. She states it is “a game changer for law enforcement.” However, the new proposal will not be enough alone to reduce fraud offences. It is equally important for the government to promote the cultivation of an anti-fraud culture within organisations, discouraging misconduct and fostering a transformation in corporate values.

Key Elements of the Failure to Prevent Fraud Offence

The new proposed failure to prevent fraud offence will work similarly to the equivalent offence under section 7 of the Bribery Act 2010.A relevant body will be criminally liable where a person associated with it commits a fraud and the organisation did not have reasonable procedures in place to prevent the fraud.‘ The associated person must have committed the fraud, intending to benefit the organisation, whether directly or indirectly.

The offence is of strict liability for the organisation. Prosecutors will not need to show the organisation’s leaders authorised or had any knowledge of the fraud. The new proposal addresses some of the obstacles to the criminal prosecution of larger companies posed by the “identification principle”. This requires individuals responsible for the organisation’s “directing mind and will” be involved in the wrongdoing for the company itself to be held liable. This rule has been considered to have compromised the success of past prosecutions.

If the individual is convicted, the organisation is liable to an unlimited fine. However, an organisation will not be considered guilty if it was itself the intended victim of the fraud.

New Failure to Prevent Fraud Offence Will Only Apply to “Relevant Bodies”

The new offence will exclusively relate to “relevant bodies” as defined in the proposals. These bodies encompass “large organisations” across various sectors, such as commercial enterprises, charities, NGOs, and public entities. To fall under this category, these organisations must meet at least two of the following requirements during the financial year preceding the occurrence of the fraud offence:

  • Turnover of more than £36 million
  • A balance sheet total (so total assets) of more than £18 million
  • An average of more than 250 employees

As a result, small and medium-sized businesses would be exempt from the legislation. This differs from the Bribery Act 2010 which applies to all businesses regardless of size. The government has yet to give a reason why small and medium businesses are to be excluded from the proposal. However, as the proposals include a power for these requirements to be modified, the word “large” may be removed from the definition, meaning the offence could be extended to all organisations.

In the interim, the government expresses its clear expectation that certain small and medium-sized enterprises (SMEs) may voluntarily embrace upgraded procedures, irrespective of any legal obligation. This sentiment is emphasized in the government’s Impact Assessment, specifically mentioned in paragraph 67: “The exclusion of small and medium-business will reduce the possible benefits and the potential for cultural change. However, it is possible that small and medium businesses may adopt some of these practices resulting in spill-over benefits.

Applying to Companies and Partnerships Wherever Incorporated or Formed

Additionally, the offence applies to companies and partnerships wherever incorporated or formed. Therefore, the proposed legislation does not state the organisation must carry on business or part of a business in the UK. This contrasts with provisions of the Bribery Act 2010. The proposals have yet to reveal the jurisdictional requirements for the underlying fraud offence. However, it can be assumed that they will follow in line with the jurisdiction recruitments of the offences in question. For most of the in-scope fraud offences, this is that a ‘relevant event’ occurred in England & Wales. For offences under sections 1 to 4 of the Fraud Act (fraud by false representation, fraud by failing to disclose information and fraud by abuse of position), it will be enough that the intended gain or loss occurred in England & Wales.

What is Considered an Associate in Fraud?

The proposals enable relevant organisations to be held criminally accountable for the occurrence of fraud committed by individuals associated with the organisation. These people are commonly referred to as “associates.”

Associates include employees, agents, and subsidiaries, who are automatically deemed as such. Additionally, individuals and corporations that provide services for or on behalf of the organisation will also be considered associates.

What is Considered “Fraud” in the New Proposal?

The proposals include a schedule that outlines the fraud offences falling within its scope. Presently, these offences consist of a collection of fundamental common law and statutory fraud offences:

  • cheating the public revenue
  • fraud, obtaining services dishonestly and other specific offences under the Fraud Act
  • false accounting and false statements by company directors under the Theft Act 1968
  • fraudulent trading under the Companies Act 2006 
  • relevant Scottish and Northern Irish equivalent offences. 

Nevertheless, the Secretary of State retains the authority to modify the list as deemed necessary. This includes the ability to incorporate supplementary offences related to dishonesty or money laundering as outlined in the Proceeds of Crime Act 2002.

What is the “Reasonable Procedures” Defence

The “reasonable procedures” defence for organisations means that at a time of fraud, they had “reasonable procedures” in place to prevent such an act from happening. Alternatively, the “reasonable procedures” defence applies to an organisation where it was not reasonable in the circumstances to expect such procedures to be in place.

The impact assessment provided by the government states that the inclusion of the “reasonable procedures” requirement, as found in the Criminal Finances Act (CFA), will impose a comparatively lighter burden on organisations. This is contrasted with the obligation of “adequate procedures” outlined in the Bribery Act 2010.

Regardless, the government is obligated to release guidance regarding the definition of “reasonable procedures” concerning fraud prevention. It is probable that they will adhere to the guidelines already published for the prevailing failure to prevent offences. Therefore, we can expect to see a focus on the following principles:

  • Proportionality of prevention measures
  • Top-level commitment
  • Risk assessment
  • Due diligence
  • Communication and training
  • Monitoring and review

Additionally, there is likely to be increased monitoring of accounting and auditing provisions.

There currently isn’t a set date for when a large organisation will need to have these measures in place. The guidance provided in relation to the offence of failing to prevent tax evasion states it may not always be reasonable to have measures in place. This can be seen where a relevant body has assessed the risks and considers the cost of implementing prevention procedures to be disproportionate or cost-prohibitive in relation to the negligible risks faced.

However, in most cases, it is unreasonable not to have carried out a risk assessment.  

Wider Goals of the Proposed Failure to Prevent Fraud Offence

Although the Impact Assessment notes that the proposed offence is likely to lead to more prosecutions, it is thought that a significant increase will not happen. The proposal, however, has wider aims than simply more enforcement. It is hoped that the proposed failure to prevent fraud offences will:

  • Incentivise organisation to implement improved fraud prevention measures
  • Raise awareness for fraud prevention
  • Deterring fraudulent conduct
  • Lead to a shift in corporate culture generally.

The Impact Statement notes (in paragraph 99) that “… we do not expect many proceedings for the introduction of the failure to prevent fraud offence. Instead, it is more likely cases would result in a DPA …” 

What to Expect Next?

The proposals will undergo deliberation in the House of Lords in the upcoming weeks. During this time, they might undergo amendments or refinements. Subsequently, the Bill will return to the Commons for further examination before ultimately receiving Royal Assent. It is anticipated that the measures will be implemented within approximately a year thereafter. It’s important to note that the publication of guidance on reasonable procedures must precede the enforcement of the new offence.

What Can Your Organisation Do to Prepare?

Most organisations should already have policies in place regarding preventing fraud by their employees. These should especially be in place already if you operate in the regulated sector. However, the proposed offence will extend organisations’ obligations beyond employees to agents, subsidiaries and those performing services on behalf of the organisation. Therefore, businesses will need to review their existing policies to cover the new obligations.

The forthcoming guidance aims to offer supplementary guidance on the criteria necessary to establish a defence based on reasonable procedures.

In cases where an organisation currently lacks dedicated policies addressing fraud, a thorough evaluation of existing compliance policies will be required. If deemed necessary, new and supplementary procedures must be implemented accordingly.

In all instances, the effective implementation of the policies necessitates conducting suitable risk assessments, providing adequate training, ensuring effective communication, and maintaining continuous monitoring.

The government’s press release on the proposed offence is available here

Additionally, the full text of the proposed offence can be found on pages 19-26 of the amendment paper

If you are under investigation for serious fraud or tax offences, it can turn your life upside down. Cartwright King’s fraud lawyers provide the legal support you need to help you navigate fraud and tax investigations, protecting you from reputational damage and criminal charges.

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All advice is correct at time of publication.