Navigating the Identification Principle

As we embark on a new era for corporate liability, discover the implications of the reform to the UK’s Economic Crime and Corporate Transparency Act, as it aims to strengthen corporate governance and accountability. 

Introduction

The legislative landscape of the United Kingdom (‘UK') is poised for a significant transformation with the introduction of the Economic Crime and Corporate Transparency Act (‘the Act’). This crucial legislation aims to enhance corporate governance and accountability and has generated considerable debate and speculation. Central to this Act is the reform of the identification principle, a fundamental tenet of company law that determines when a company can be held criminally liable for the actions of its personnel.

The transformation of the identification principle is set to redefine paradigms of corporate criminal liability, marking a new era in corporate accountability. This piece examines the fabric of the Act, including its critical alterations, contextual backdrop, and broader implications for the UK's corporate landscape concerning legislative evolutions. The reinterpretation of the identification principle, ambiguity surrounding the term "senior manager", the safeguard potential of the adequate procedures defence, and implications for UK businesses regarding increased enforcement risk and compliance burden will be explored.

The Identification Principle: A new era of Corporate Criminal Liability

Under the previous legal framework, a company could only be held liable for a crime if the directing mind and will of the corporation were found to have committed the offence. This doctrine, known as the identification principle, requires that the actions and intentions of a natural person, specifically a person associated with the company’s management, can be attributed to the corporation. If a company’s directing mind and will is proven to have committed a criminal act, that act, including the intent to commit the crime, is considered to have been perpetrated by the company itself.

However, huge, complex, modern corporations have seen significant growth over the past decades, with decision-making often dispersed across multiple directing minds who exercise control over different business functions. This has made it increasingly difficult to identify who runs business functions and who should be held accountable for corporate criminal liability. Consequently, senior managers who hold decision-making power over substantial areas of business and have the authority to commit large-scale harm often need to be more controlling in order to trigger corporate liability.

In this context, the Act inaugurates an important amendment to the identification principle. This updated legal construction redefines how responsibility for wrongdoing, and other acts by individuals, can be attributed to a company. The original principle, demanding the pinpointing of the directing mind or will of a corporation, faced criticism for its failure to reflect contemporary corporate structures and operations. This inadequacy has been a longstanding concern for law enforcement agencies, such as the Serious Fraud Office, which has advocated for legal reforms to facilitate more effective prosecution of corporate malfeasance.

The Act, while seeking to provide a statutory basis for the identification principle, must be understood in the context of its predecessors, notably the Corporate Manslaughter and Corporate Homicide Act 2007. An assessment of this older Act's effectiveness in addressing similar problems enriches understanding of the potential implications of the new legislation. The 2007 Act’s reliance on the identification principle, which requires the prosecution to identify a controlling mind which can be said to embody the company, has proven problematic in complex corporate structures where decision-making is diffused. This has resulted in a limited number of prosecutions and convictions under the 2007 Act, raising questions about its effectiveness. The new Act introduces two key changes to the UK’s corporate criminal liability regime in relation to economic crime. These include the expansion of the identification principle and the introduction of a failure to prevent fraud offence. These reforms are driven by the challenges which prosecutors have historically faced in prosecuting corporate entities due to the previous restrictive identification principle, and the increasing levels of economic crime, especially fraud, in the UK.

The new Act replaces the outdated directing mind and will test, which limited corporate criminal liability to a narrow group of individuals who represented the company’s directing mind and will at the time of the offence. Also, the new definition aims to ensure that the senior manager definition replicates that found in the Corporate Manslaughter and Corporate Homicide Act 2007. A “senior manager” is defined as an individual who plays a significant role in the making of decisions about how the whole or a substantial part of the activities of the organisation are to be managed or organised. While the definitions are similar, the key difference lies in the application of the definition. The new Act expands the scope of liability beyond the directing mind and will of the company to include senior managers who have significant decision-making roles.

The definition of Senior Manager: An ambiguity

Despite the Act's efforts, the term senior manager remains ambiguous. An examination of parliamentary proceedings and past corporate crime cases, where the existing law on the identification principle failed, could provide practical insights into the application and interpretation of this term. The statutory definition hinges not on the manager's job title but on their roles, responsibilities, and the level of managerial influence they might exert within the corporation. This raises questions about objectively defining the term “significant role” and substantial part of the corporation's activities, potentially leading to interpretive challenges.

The definition's broadness allows for flexibility in its application across various organisational structures, but it could also cause uncertainty, especially for larger corporations with complex hierarchies and diversified roles. A senior manager in one department might exert significant influence over that department's activities but might not hold substantial decision-making power over the corporation's overall activities. This could lead to difficulties in determining who, in the context of a large, multifaceted corporation, falls under the category of a senior manager. Furthermore, this focus on individual roles and responsibilities may inadvertently exclude systemic organisational issues from consideration. For example, suppose decision-making is dispersed across a network of managers. In that case, it may be challenging to pinpoint a single senior manager who could be held responsible for a corporation's economic crimes.

While the Act aims to provide greater clarity on the legal test parameters and to bring the law up to date with modern company structures, it is clear that the definition of a senior manager introduces new layers of complexity and ambiguity. In addition, as businesses aim to reduce the potential risks of corporate liability and its consequences, the Act is bound to face greater scrutiny. This may not significantly decrease the interest of individuals in senior roles, but it is part of a larger trend seen in the Senior Managers Regime and the Online Safety Act 2023. Senior individuals are facing an increasing compliance burden without precise clarity on the definition of senior managers. It is uncertain when such clarification will be provided, adding to the challenge of complying with the new Act.

The defence of Adequate Procedures: A potential safeguard?

The concept of adequate procedures can be interpreted as a company having in place sufficient internal controls and compliance programs to prevent economic crimes. It suggests a system where policies, procedures, and rules are in place to identify, manage, and mitigate financial crime risk. These might include risk assessments, due diligence procedures, training programs, monitoring and review processes, and a clear demonstration of commitment from senior management towards preventing unlawful conduct.

While the specific details of what might constitute adequate procedures in the context of the Act are not fully clear, one might speculate that it would involve a robust and effective compliance programme. This could include having an internal compliance team, regular employee training on economic crime risks, a clear code of conduct outlining acceptable and unacceptable behaviours, and proactive measures to detect and prevent financial crimes. Significantly, the adequate procedures defence is applicable only in cases of failure to prevent fraud. The Act acknowledges that in some instances, it may not be reasonable to expect a body to have prevention procedures in place. This nuanced understanding is crucial for interpreting the Act's scope and limitations. This largely depends on how the law will be interpreted and applied in practice.

Conclusion

In conclusion, the new Act introduces significant changes to the United Kingdom's corporate liability framework, particularly through the reform of the identification principle. This legislative shift, which broadens the scope of liability to include senior managers with significant decision-making roles, represents an important development in corporate governance and accountability. However, the ambiguity surrounding the definition of a "senior manager" and the practical application of the "adequate procedures" defence introduce complexities and potential challenges for corporations aiming to navigate the new legal landscape. As the Act seeks to adapt the law to modern corporate structures, its effectiveness in enhancing corporate accountability and deterring economic crimes will depend significantly on the clarity of its interpretation and the robustness of its enforcement. The Act not only reflects a commitment to addressing economic crime but also highlights the evolving nature of corporate responsibility in response to changing business environments.

Written by Charles Mak, Lecturer in Law at the Robert Gordon University