Identity crisis

The SEC and the FSA have contrasting roles to play in reducing financial crime. Jason Mansell examines the FSA’s difficulties as both regulator and prosecutor

The UK and the US have adopted different methods to deal with the problem of white collar crime.

In the US, there is a clear demarcation between the powers of the Securities and Exchange Commission (SEC) and the US Department of Justice (DOJ). The SEC does not have general criminal powers and works with the DOJ to enforce federal securities laws. The SEC uses its administrative procedures or brings actions in the civil courts, and the DOJ brings criminal prosecutions where appropriate.

On the other hand, in the UK, the Financial Services Authority (FSA), as well as the police, have specific powers to prosecute for breaches of the Money Laundering Regulations and for insider dealing and market manipulation. The idea of a single body having a variety of tools – civil, criminal and regulatory – to deal with market issues is very appealing. It concentrates expertise, it frees up the resources of the police to investigate crimes that the public might consider to be of higher priority, and sends a clear message that protecting consumers and reducing financial crime are at the forefront of the FSA’s concerns.

In practice, however, the FSA is not the most vigorous of prosecutors. Since N2, it has not begun any criminal prosecutions, although it has been indicated recently that some are imminent. However, as a public prosecutor, the FSA is committed to apply the Crown Prosecution Services’ Code for Crown Prosecutors in every case where it investigates potentially criminal acts. Therefore, it must investigate each case to the criminal standard. Applying the code, the FSA must determine whether there is enough evidence and whether it is in the public interest to prosecute. By its very nature, this assessment can only be made at the conclusion of an investigation.

In every hybrid criminal and regulatory case, the FSA has to consider criminal prosecution first. For good reason, the FSA is anxious not to be seen as a ‘club’ looking after the interests of its members over that of the consumer. However, unlike other law enforcement agencies, the FSA has other tools in its kit and may often know at a relatively early stage whether the allegation is of a type that it would want to prosecute. In many cases, the regulatory tool is likely to be more effective than the criminal one, with regulatory penalties often exceeding those imposed by the criminal courts. For example, Northern Bank was recently fined £750,000 for breach of the FSA’s Money Laundering Rules, a penalty more severe than a judge would have been likely to impose for a breach of the Money Laundering Regulations.

However, the FSA’s rigid adherence to the code requires it to investigate every hybrid criminal and regulatory case as if a prosecution may result. This results in more extensive investigations, which means precious resources are expended dealing with a party’s rights under the Human Rights Act, more onerous disclosure obligations and efforts to ensure the admissibility and continuity of the evidence. In practice, these criminal legal requirements place increased burdens upon the FSA’s scarce resources. They actually undermine its statutory objective of reducing financial crime because the investigative process is slower and more complicated. Authorised firms and approved persons cannot be criticised for taking a strict legal approach to enforcement actions when they may face the risk of criminal prosecution.

The area where most difficulties are created through the FSA’s dual role as prosecutor and regulator is in relation to the privilege against self-incrimination under the criminal law and the regulatory obligation to cooperate under the FSA’s principles. At the start of an investigation, the FSA will often wish to carry out fact-finding investigations by interviewing relevant personnel at the firm under investigation. Individuals whom the FSA wish to interview voluntarily are faced with a difficult decision. Do they ask to be compelled, thereby protecting their right not to incriminate themselves, or do they cooperate fully and comply with their regulatory obligation? Moreover, what of the firm’s rights? Firms are also under a regulatory obligation to cooperate and, as a separate legal entity, also have a privilege against self-incrimination.

As an investigator of criminal offences, the FSA is also bound by the Police and Criminal Evidence Act 1984 (Pace) and the codes of practice issued under it. Where the FSA has reasonable grounds to suspect that an individual has committed a criminal offence and wishes to interview the person, it must conduct the interview under caution. Until recently it was not open to the FSA to require the person’s attendance at an interview. This was frustrating for the FSA because the interviewee could refuse to attend the interview and no adverse inference could be drawn from his refusal, whereas had they attended the interview and then refused to answer questions an adverse inference could be drawn. Recently, the FSA has signed a Memorandum of Understanding with City of London Police enabling FSA investigators to make use of the police’s power of arrest to interview under caution. While making the FSA’s powers more effective, this is a further example of the additional complications caused by the FSA’s unique role as prosecutor and regulator.

In the US, a coordinated and integrated approach is adopted by the SEC and the DOJ to enforce the securities laws. As the Enron case demonstrates, the DOJ is not slow to bring criminal prosecutions where it is appropriate to do so. Unlike the UK, firms do not have a privilege against self-incrimination, although individuals do. For an individual, asserting the privilege against self-incrimination can have serious consequences in any civil or regulatory proceedings as adverse inferences can be drawn. The SEC uses its administrative procedures or brings actions in the civil courts to enforce the securities laws. Recently, the state attorney generals have also shown themselves to be active in this field. In April, an investigation spearheaded by Eliot Spitzer, the New York State Attorney General, resulted in 10 Wall Street firms paying $1.4bn (£843.3m) to settle conflicts of interest allegations in connection with their investment analyst’s activities. In August, the Oklahoma State Attorney General filed criminal charges against WorldCom, its former chief executive officer and several former employees. Earlier this month, Spitzer announced a $40m (£24.1m) settlement with a hedge fund in connection with late trading allegations.

The UK and US approach to the enforcement of certain types of white collar crime is, at first glance, very different. However, in practice it is the Crown Prosecution Service and Serious Fraud Office that still prosecute the overwhelming majority of criminal cases in this area in the UK. The FSA’s apparent reluctance to bring a criminal prosecution does not prevent many of its investigations being hampered by the strict evidential and procedural requirements associated with a criminal investigation. While the evidential and public interest test is an effective mechanism for determining which cases should be brought for other law enforcement agencies, it is too rigid and simplistic for the FSA. In appropriate cases, the FSA should be able to indicate at an early stage of its investigation whether or not it wishes to investigate a matter criminally. Paradoxically, this may prove to be a more effective method of satisfying its statutory objective of reducing financial crime.

Jason Mansell is a London senior associate in Allen & Overy’s regulatory investigations group and was assisted in this article by Pam Chepiga, a senior counsel in the firm’s New York litigation department