Communication from the Commission to the Council and the European Parliament on Preventing and Combating Corporate and Financial Malpractice
Date: 2004-09-27
Institutions: European Commission
Subjects: auditing, bankruptcy, business ethics, economic offence, exchange of information, financial market, fraud, management audit, supervisory body, tax avoidance

COMMISSION OF THE EUROPEAN COMMUNITIES 

Brussels, 27.09.2004 
COM(2004)611 final 

COMMUNICATION FROM THE COMMISSION 
TO THE COUNCIL AND THE EUROPEAN PARLIAMENT 

on Preventing and Combating Corporate and Financial Malpractice

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1. 

Introduction 

Recently, a number of scandals have caused uncertainty in capital markets, damaging the 
overall economy. In one year Enron shareholders lost around US-dollar 67 billion leaving 
employees and former  employees with meagre retirements1. The  market capitalisation of 
Parmalat  depreciated  by  more  than  90%  in  only  three  months.  Enron,  Parmalat  and  no 
doubt  other  companies  used  and  will  continue  to  use  complex  and  opaque  structures, 
including subsidiaries in offshore financial centres (OFC), Special Purpose Vehicles (SPV) 
and complex financial transactions, often with the complicity of third parties, to reduce the 
transparency of their activities to investors. The risk of such practices must be reduced. 

The  Financial  Services  Action  Plan  (FSAP)  and  the  Action  Plan  for  Company  Law  and 
Corporate  Governance  (Action  Plan)2  already  provide  the  right  policy  response  for  an 
effective EU framework for dealing with most of the financial issues raised by the recent 
scandals. There seems no need to significantly change or add to these action plans; rather 
to press ahead with their timely implementation and ensure strict oversight and effective 
control  of  the  application  of  legislation.  The  aim  of  this  Communication  is  to  provide  a 
holistic approach on how to reduce the risk of financial and corporate malpractice covering 
also taxation and law enforcement. 

2. 

Conceptual framework 

There  are  four  lines  of  “defence”  against  corporate  malpractice.  The  first  line  is  the 
internal control in a company, in particular by the board members. 

Fig. 1: Conceptual framework 

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Los Angeles Times: “Enron is Proving Costly to Economy”, 20 January 2002 
COM(1999)232 and COM(2003)284 final 

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The  second  line  of  defence  is  primarily  the  auditors.  Auditors  must  be  independent  and 
certify that a company’s accounts give a true and fair view of the financial situation of a 
company.  This  line  of  defence  also  includes  advisors  e.g.  corporate  lawyers,  financial 
intermediaries  and  investment  banks  when  they  e.g.  advise  on  how  to  use  SPVs, 
incorporate  companies’  offshore,  issue  bonds  etc.  Also  rating  agencies  and  financial 
analysts are part of this line of defence. The overriding problem is to ensure transparency 
and  reduce  to  a  minimum  -  and  at  least  effectively  manage  -  conflicts  of  interests.  E.g. 
intermediaries  should  not  assist  in  issuing  corporate  bonds,  if  they  are  aware  that  a 
company is insolvent, nearly insolvent or likely to be unable to repay the debt instruments. 

The third line of defence is supervision and oversight. Investors rightly expect supervisors 
to  ensure  that  laws  are  being  respected.  However,  recent  scandals  show  scope  for 
improvement,  including  the  cooperation  between  supervisors  across  sectors  and  borders 
with sufficient powers given to supervisors. 

The fourth line of defence is law enforcement. It covers criminal prosecution and primarily 
concerns police, judicial authorities and other public authorities responsible for combating 
financial  crime,  including  illegal  activities  harmful  to  the  EC’s  financial  interests.  In 
combination  with  dissuasive  sanctions,  law  enforcement  can  have  both  punitive  and 
preventive effects. In all cases there is an overriding need for close co-operation between 
law enforcers and the bodies that carry out supervision and oversight. 

3. 

Background 

The latest in a series of major global financial scandal is Parmalat. Criminal investigations 
are ongoing and it is too early to draw any definitive conclusions. It appears, though, that 
Parmalat  had  annual  losses  of  €350  to  450  million  from  the  mid  1990s  to  2001.  Yet  the 
the  assistance  of  financial 
company  accounts  showed  positive  earnings.  With 
intermediaries billions of euro-bonds were issued despite the weak real financial situation 
of the group. Retail investors ended up with a substantial proportion of these bonds. Why 
did the lines of defence fail? 

Parmalat  had  a  complex  web  of  subsidiaries,  a  number  offshore,  to  take  advantage  of 
flexible legal, financial and tax environments. Beneficial ownership was not always clear. 
It used complex structures involving SPVs incorporated in OFCs to finance its debt and to 
keep  large  parts  of  its  business  off  balance  sheet.  Parmalat  -  a  milk  company  -  took 
financial  engineering  to  an  extreme  using  these  techniques  over  a  period  of  many  years 
and in many different jurisdictions within and outside the Union. 

Parmalat’s  internal  controls  did  not  function  properly.  Corporate  leadership  and 
governance were lacking, leading to the breakdown of the first line of defence. 

It appears there also have been significant audit failures, leading to the break down of the 
second  line  of  defence,  which  may  have  been  assisted  by  the  way  some  banks  and 
investment banks, rating agencies and financial analysts acted. Certain intermediaries and 
advisors no doubt knew Parmalat was a highly risky asset, but some may only have used 
that  information  to  pass  on  the  risk  to  others  minimising  their  own  risks  or  to  generate 
profit for themselves. 

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Also the third line of defence seems to have fallen. Clearly one problem that can occur is 
insufficient  cooperation  from  offshore  jurisdictions.  The  sheer  number  of  authorities 
involved  in  supervising  multinational  companies  and  financial  institutions  present  in 
different jurisdictions can be very large and the enforcement powers may be insufficient. 
Even at national level there often can be more than one supervisor involved. 

The  use  of  complex  company  structures,  compounded  by  complex  regulatory  structures 
can weaken control and can lead to gaps in effective regulation and supervision3. 

Given  the  role  that  banks,  investment  banks,  rating  agencies  and  financial  analysts  may 
have  played  in  the  Parmalat-affair,  the  transfer  of  risk  to  the  retail  part  of  the  financial 
system and insufficient transparency in the corporate bond market deserves more attention. 
As complex financial arrangements are often used to blur the ultimate beneficial owners of 
companies, the Commission will analyse what further action is needed. 

4. 

What can be done to strengthen the four lines of defence? 

All  lines  of  defence  taken  together  must  be  robust  enough  to  prevent  and  discourage 
corporate  malpractice.  The  key  elements  are:  enhanced 
improved 
traceability;  and  better  coordinated  enforcement.  Each  has  a  value  in  itself  but  they  are 
also linked. E.g. having strict rules on transparency, or auditor rotation, only helps if they 
are enforced. 

transparency; 

Below is a presentation of EU initiatives to reinforce the four lines of defence4. 

4.1. 

First  line  of  defence  –  Internal  controls  in  the  company  and  corporate 
governance 

Boards  of  companies  have  fiduciary  obligations  towards  the  company  itself,  its 
shareholders as well as obligations to stakeholders at large. 

EU-level 

As announced in the Action Plan the Commission will: 

•  In  the  short  term5,  clarify  the  collective  responsibility  of  the  board  members  for 
financial statements and key non-financial information, enhance transparency for intra-
group  transactions  as  well  as  transactions  with  related  parties  (including  SPVs)  and 
oblige all listed companies annually to make public a corporate governance statement; 

•  In  the  longer  term,  the  Commission  will  look  into  criteria  for  disqualification  of 

directors and wrongful trading; 

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HSBC operating in 79 jurisdiction and claims it has to deal with more than 370 authorities at a cost 
of  around  €320  million  per  year.  (Annual  report  HSBC  Holding  PLC  pp  7  and  30).  After 
enlargement,  there  are  around  50  authorities  in  the  EU  alone  to  supervise  ever  more  complex 
transactions and products. 
In annex 1 some international initiatives are set out 
Short term means before the end of 2004; medium term means before December 2005; and longer 
term initiatives means after 2006. 

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Bearer shares and bonds can be used to blur the ultimate beneficial owners and financial 
flows.  The  Commission  will  look more  closely  at  the  use  of  such  instruments  and  make 
proposals to alleviate any problems. 

Following the Directive on Markets in Financial Instruments6 the Commission will analyse 
bond  market  transparency,  including  risk  transfer  to  the  retail  sector.  Depending  on  the 
outcome, further initiatives may follow. 

4.2. 

Second line of defence – independent third parties 

The  most  important  third  party  is  the  auditors.  But  included  are  also,  accounting  firms, 
banks, investment bankers and lawyers, as well as rating agencies and financial analysts. 

EU-level 

Following the Action Plan the Commission has proposed a directive on statutory auditing 
to  inter  alia  require:  full  group  auditor  responsibility  for  consolidated  accounts;  audit 
committees in public interest entities; auditor rotation; and to strengthen sanction regimes7. 

It the area of customs cooperation the Commission has proposed a regulation to prevent 
money laundering. The regulation requires cash control based on a declaration system for 
amounts  above  €15.000  and  it  provides  for  powers  and  penalties  to  enable  customs 
authorities to enforce the regulation. 

As  part  of  the  FSAP  the  Commission  has  proposed  a  third  anti-money-laundering-
directive to cover also trust and company service providers, even though France, Sweden, 
Greece and Luxembourg have not yet fully transposed the second anti-money laundering 
directive8. The proposal also requires all financial institutions based in the Community to 
apply  anti-money-laundering  provisions  in  all  their  branches  or  majority  owned 
subsidiaries carrying out business offshore. 

In  the  short  term  a  regulation  will  give  effect  to  FATF  Special  Recommendation  VII  on 
terrorist financing and require full originator information on all electronic funds transfers 
leaving the EU. 

The  meeting  of  the  ECOFIN-council  in  Oviedo  2002  invited  the  Commission  to  look 
closer at credit rating agencies (CRAs) and financial analysts. Regarding CRAs four issues 
are of interest: legal uncertainty on access by CRAs to inside information from issuers; the 
way CRAs carry out their credit assessment; entry barriers in the industry; and conflicts of 
interest. On 5 July 2004 the Commission requested CESR9 to analyse this area as a basis 
for a Commission report to be presented before 31 July 2005 as requested by the European 
Parliament. 

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Directive 2004/39/EC of the European Parliament and of the Council of 21 April 2004. 
Proposal  for  a  Directive  of  the  EP  and  of  the  Council  on  statutory  audit  of  annual  accounts  and 
consolidated  accounts  and  amending  Council  Directives  78/660/EEC  and  83/349/EEC  – 
COM(2004)177 final, 16 March 2004. 
Directive  97/2001/EC  of  the  European  Parliament  and  of  the  Council  of  4  December  2001  on 
prevention of the use of the financial system for the purpose of money laundering. 
Committee of Securities Regulators 

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Regarding  financial  analysts,  the  key  issues  are  to  ensure  that  investment  firms  have 
effective  systems  in  place  to  prevent  or  manage  conflicts  of  interest;  that  the  investor’s 
interests are protected; and that issuers show good conduct in their dealings with analysts. 
In 2005, the Commission will propose measures to implement the Directive on Markets in 
Financial  Instruments,  on  prevention  and  management  of  conflicts  of  interest  relating  to 
the production of investment research by investment firms. Implementation of the Market 
Abuse Directive10 sets out a disclosure regime for investment research which complements 
this. 

4.3. 

Third line of defence –- Supervision 

Member  states  must  implement  and  enforce  EU  legislation.  National  supervisors  have  a 
key role to play here and must cooperate at domestic, EU or international levels. Failure to 
implement and enforce EU legislation is a major barrier to fighting corporate malpractice. 

EU-level 

As part of the Action Plan the Commission has proposed a Directive on Statutory Auditing 
that  requires  adequately  funded,  effective  and  independent  public  supervision  for  all 
statutory  auditors  and  audit  firms;  cross  border  cooperation;  and  it  sets  a  framework  for 
cooperation with third countries. The proposed directive should be finally adopted at the 
latest by June 2005. 

Among Member States, there is often more than one authority involved in supervising the 
institutions operating on their financial markets. These different authorities must cooperate 
to ensure that regulatory controls are effective and adequate. 

At  European  level  steps  towards  improved  cooperation  among  supervisors  were  taken, 
primarily  to  assist  the  Commission  in  drawing  up  implementing  measures  at  European 
level11.  But  it  is  also  important  for  developing  deeper  day-to-day  cooperation  between 
supervisors. E.g. CESR members have a framework for voluntary cooperation12. It covers 
securities  supervisors’  inspection  and  enforcement  of  e.g.  insider  dealing,  market 
manipulation  and  other  fraudulent  or  manipulative  practices.  The  framework  gives  the 
signatory  authorities  the  option  to  conduct  joint  investigations,  share  the  work  and 
responsibilities  and  co-ordinate  follow-up  actions.  The  obligation  for  supervisory 
authorities to cooperate cross border has indeed been introduced in some recent directives 
e.g. the Market Abuse Directive. 

CESR  has  adopted  a  standard  on  coordination  of  enforcement  activities13  on  financial 
information  to  inter  alia  ensure  that  EU  supervisors  can  get  information  about  decisions 
taken  across  the  EU.  CESR  and  the  other  Committees  also  provide  for  sessions  where 
supervisors can coordinate their work and exchange experiences. However, recent events 

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Commission Directive 2003/125/EC 
The  European  Securities  Committee  (ESC),  European  Banking  Committee  (EBC),  European 
Insurance and Pension Committee (EIOPS); Committee of European Securities Regulators (CESR); 
Committee  of  Insurance  and  Occupational  Pension  Supervisors  (CEIOPS)  and  Committee  of 
Banking Supervisors (CEBS). 
Multilateral Memorandum on the Exchange of Information of Securities Activities of January 1999 
CESR / 03-317c 

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have  indicated  that  there  could  be  a  need  to  strengthen  further  the  cooperation  between 
supervisors,  e.g.  by  making  joint  investigations  an  obligation  in  cases  of  complex 
companies operating across a range of Member States; by using risk mapping as a basis for 
supervision;  and  by  developing  guidelines  for  peer  reviews,  including  publication  of  the 
results to help assess best practice. 

To  match  the  increasing  complexity  of  financial  transactions  and  institutions  supervisors 
from the securities field, the banking area and the insurance area must cooperate ever more 
closely. A clearer division of labour should be created between the European level and the 
national  level  e.g.  by  dealing  with  complex  institutions  that  operate  cross  border  only  at 
European level. 

To improve transparency of tax systems it is necessary to facilitate access to, and exchange 
of information. Information available to other supervisors may be relevant for tax purposes 
and  could  be  passed  on  to  tax  authorities,  outside  the  scope  of  judicial  cooperation,  to 
better identify a group's structure and location in offshore centres. 

To facilitate financial flows traceability between companies and provide information to tax 
authorities  on  their  beneficiaries,  the  Commission  will  in  the  long  term  examine  with 
Member  States  the  possibility  of  using  a  single  direct  tax  identification  number  for 
companies, drawing on the experience of the VAT number. 

To  remove  remaining  obstacles  to  exchange  of  information  between  tax  authorities,  two 
issues in particular would need to be considered. Firstly, it needs to be examined whether 
the  current  limitations  of  the  Mutual  Assistance  Directive14  hamper  the  exchange  of 
information and obstruct the detection of complex structures such as those used in the case 
of Parmalat, and, if so, whether it would be desirable to amend these at least to the extent 
that  they  relate  to  corporate  taxation.  Secondly,  the  EU  should  take  account  of  the  on-
going  work  at  the  OECD  on  improving  access to  bank  information  for  tax  purposes  and 
examine  how  these  developments  could  be  reflected  in  the  existing  Community 
instruments. 

In the short term improved administrative co-operation through better use of existing EU 
instruments  and  the  exchange  of  best  practices  between  Member  States  should  be 
promoted. Fiscalis15 seminars will address this with focus on how to tackle tax fraud cases 
involving complex corporate structures. 

In  the  medium  term,  administrative  co-operation  could  be  improved  by  broadening  the 
scope for joint investigations in direct tax matters16, between different Member States and, 
at national level, between different services. 

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In  particular  article  8  of  the  Mutual  assistance  directive  which  imposes  "no  obligation  upon  a 
Member  State  from  which  information  is  requested  to  carry  out  inquiries  or  to  communicate 
information, if it would be contrary to its legislation or administrative practices for the competent 
authority of that State to conduct such inquiries or to collect the information sought ". 
DECISION No 888/98/EC OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL of 30 
March  1998  establishing  a  programme  of  Community  action  to  ameliorate  the  indirect  taxation 
systems of the internal market 
Regulation 1798/2003 already provides for joint investigations in the indirect tax area 

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In  the  longer  term  drawing  on  the  experience  with  automatic  exchange  of  information 
from  the  Directive  on  taxation  of  savings  income,  it  could  be  explored  whether  this 
practice  could  be  extended  to  other  areas  of  direct  taxation  or  other  types  of  income, 
possibly  by  making  better  use  of  new  technologies  such  as  existing  secure  systems  at 
Community level17. Regarding exchange of information on request, accelerated procedures 
could help to respond more quickly and effectively in cases of tax fraud or avoidance, and 
common  definitions  of  such  concepts  could  be  developed  for  direct  tax  purposes  in  line 
with the OECD work in this area. 

In  the  short  term,  the  Commission  will  work  with  Member  States  to  develop  concrete 
proposals  targeted  at  cases  of  tax  fraud  and  avoidance  involving  complex  and  opaque 
structures, such as those used by Parmalat. 

Efforts  to  improve  transparency  and  exchange  of  information  only  have  little  effect  if 
limited to the EU. Non-transparent structures provided by offshore jurisdictions were used 
by  Parmalat.  Therefore  the  European  Union  must  promote  far  greater  transparency  and 
exchange of information with third countries as well as dependent or associated territories 
to ensure their adoption and implementation on as wide a geographical basis as possible. 
In  order  to  do  so  better  consistency  is  essential  in  defining  EU  policies  towards 
cooperative and non cooperative tax havens. The time has now come for concrete actions 
to ensure that our partners are transparent. 

First,  the  EU  partners  should  support  transparency  and  exchange  of  information  in  the 
financial and tax fields in their relations with the EU. The Commission intends to discuss 
this in its policy dialogue with third countries and dependent territories, as well as possibly 
when negotiating or updating an association agreement, with a view to identifying possible 
ways  forward.  This  could  be  applied  to  ongoing  negotiations  such  as  the  economic 
partnership  agreements  with  the  African,  Caribbean  and  Pacific  or  other  countries.  In 
addition  to  this,  in  order  to  achieve  our  objectives,  the  EU  should  be  prepared  to  assist 
partner countries to put in place regional rules on these issues. It should however not be 
considered as a scoreboard aimed at setting up a basis for conditionality or selectivity, but 
as a tool for practical improvements in standards. 

Second,  positive  actions  could  help  cooperative  partners  to  overcome  difficulties  of 
regulatory, technical or economic nature when introducing more transparency, in the form 
of reinforced technical assistance, where the EU as a whole has a considerable experience, 
or  through  some  form  of  economic  support  for  a  limited  period  of  time.  Several 
instruments are available, e.g. the Cotonou agreement. The annual and mid-term reviews 
of  Country  Strategy  Papers  could  also  provide  for  appropriate  actions.  The  Commission 
will monitor the efficiency and the progress made by OFCs towards more transparency. 

Third,  the  implementation  of  the  cooperative  tax  havens'  commitments,  and  of 
transparency rules, relies on bilateral exchange of information agreements with individual 
OECD  member  countries.  The  Commission  recommends  EU  Member  States  to  rapidly 
conclude such agreements. 

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CCN/CSI platform 

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4.4. 

Fourth line of defence – Law enforcement activity 

Investigations  and  prosecutions  coupled  with  dissuasive  sanctions  have  a  preventive  and 
repressive effect. The Millennium Strategy18 gave recommendations about: penetration of 
legal  persons  by  organised  crime  groups;  fiscal  fraud;  approximation  of  legislation 
regarding  minimum  standards  of  constituent  elements  of  financial  crime  offences;  and 
review  legislation  on  tracing,  freezing  and  confiscation  of  criminal  assets.  The 
Scoreboard19 reviews progress of measures adopted or underway. 

A Framework Decision (FD) was agreed in 200120 to ensure that certain types of fraud are 
recognised as criminal offences and subject to dissuasive sanctions in all Member States. 
A FD of June 200121 aims to ensure that Member States allow freezing and confiscation of 
laundered  assets  and  that  money  laundering  applies  to  a  wide  range  of  offences.  An 
implementation report (2004)22 concluded that most Member States had implemented this 
FD. 

All  Member  States  have  Financial  Intelligence  Units  (FIUs).  Since  money  laundering 
knows no borders, effective co-operation among FIUs is essential. At EU level, such co-
operation  is  addressed  by  the  Council  Decision  of  October  200123.  The  Commission 
financially  support  cooperation  via  the  FIU  NET,  which  aims  to  establish  an  automated 
communication platform. 

A  FD  of  July  2003  sets  out  principles  of  mutual  recognition  regarding  orders  freezing 
property and evidence. A draft FD on harmonisation of confiscation measures24, establish 
that  if  a  person  is  convicted  of  organised  crime  offences  a  Court  may  order  the 
confiscation  of  assets  even  though  these  are  not  the  proceeds  of  the crime  for  which  the 
person is convicted. This draft FD is still subject to parliamentary reservations even though 
it  received  agreement  on  a  general  approach  in  December  2002.  A  third  draft  FD 
establishes  mutual  recognition  for  confiscation  orders  between  the  judicial  authorities  of 
the Member States25. It received agreement on a general approach in June 2004 but is still 
subject to a number of parliamentary reservations by Member States. 

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The Prevention and Control of Organise Crime: A European Union Strategy for the Beginning of 
the New Millennium, OJ C 124 of 3.05.2000, p. 1 
Biannual  Update  of  the  Scoreboard  to  Review  Progress  on  the  Creation  of  an Area  of  “Freedom, 
Security  and  Justice”  in  the  European  Union  (Second  Half  of  2003)  30.12.2003  COM(2003)812 
final 
Council  Framework  Decision  of  28  May  2001  combating  fraud  and  counterfeiting  of  non-cash 
means of payment (2001/413/JHA) OJ L 149 of 2.6.2001 p.1 
Framework  Decision  on  money  laundering,  the  identification,  tracing,  freezing,  seizing  and 
confiscation of instrumentalities and the proceeds of crime. 2001/500/JHA OJ L 182 of 5.7.2001 
Commission  report  based  on  Article  6  of  the  Council  Framework  Decision  of  26th  June  2001, 
COM(2004)230 final of 5th April 2004  
Council Decision of 17 October 2000 concerning arrangements for co-operation between financial 
intelligence units of the Member States in respect of exchanging information. 2000/642/JHA 
Draft  Framework  Decision  on  Confiscation  of  crime-related  proceeds,  instrumentalities  and 
property OJ C 184 of 2.8.2002 
Draft Framework Decision on the execution of confiscation orders, OJ C 184 of 2.8.2002, p. 3-5. 

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EU-level 

Co-operation and information exchange regarding investigation and prosecution must be 
strengthened.  Therefore  Europol  was  set  up  to  facilitate  the  task  of  law  enforcement 
agencies  when  they  carry  out  investigations  in  two  or  more  EU  countries.  One  key 
problem,  however,  is  the  reluctance  of  Member  States  to  transmit  information  and 
intelligence  to  Europol,  which  affects  Europol's  capacity  to  provide  the  necessary  added 
value  in  criminal  analysis  at  EU  level.  In  2002  Eurojust  was  created  to  improve 
coordination  and  cooperation  between  national  authorities  investigating  and  prosecuting 
serious crime involving two or more Member States. Eurojust and Europol have developed 
a close working relationship, and in June 2004 they signed a cooperation agreement. 

Co-operation  at  the  level  of  supervisors  and  law  enforcement  is  essential.  Investigation 
and  successful  prosecution  of  corporate  malpractice  require  a  broad  range  of  skills  and 
expertise. Co-operation between regulatory bodies and law enforcement services must be 
promoted.  One  possible  way  could  be  Memoranda  of  Understanding  for  co-operation  in 
the fight against financial crime. The Commission will further explore this. 

Co-operation  in  exchange  of  bank  accounts  and  other  bank-related  information  can  be 
relevant.  The  Protocol  to  the  Convention  on  Mutual  Assistance  in  Criminal  Matters26 
provides  for  Member  State  authorities  to  provide  details  of  bank  accounts  and  banking 
operations  of  identified  persons  as  well  as  the  ability  to  monitor  such  transactions.  The 
Protocol  has  yet  to  enter  into  force.  However,  the  Commission  has  suggested  that  the 
proposed European Evidence Warrant27 should replace the Protocol as regards requests for 
details of the existence of bank accounts (where data is available) and of previous banking 
transactions  on  such  accounts.  At  a  later  stage,  further  mutual  recognition  instruments 
would be introduced and in this process, the remaining provisions of the Protocol, notably 
monitoring of banking transactions, will be addressed. 

Co-operation  between  the  financial  and  other  business  sectors  and  law  enforcement 
authorities at EU level has a significant role in the prevention and detection of corporate 
offences. On the one hand it is believed that a significant volume of corporate malpractice 
offences  goes  unreported.  On  the  other  it  is  perceived  that  many  reports  on  suspicious 
transactions  are  made  but  not  followed  up.  The  Commission  intends  to  promote  co-
operation  between  the  private  and  public  sector  via  the  EU  Forum  for  the  Prevention  of 
Organised Crime; by encouraging more research work; and by developing an EU Action 
Plan on partnership between the public and private sectors. 

Financial  investigation  plays  a  key  role  in  fighting  corporate  malpractice.  The 
Commission  will  in  the  medium  term  elaborate  an  EU  programme  to  promote  financial 
investigation.  In  both  the  Enron  and  Parmalat  scandals,  the  wilful  destruction  of 
documents seems to have been a serious obstacle for financial investigators. Such activity 
should  carry  a  severe  EU-wide  minimum  penalty.  To  this  effect,  the  Commission  will 
consider developing an appropriate instrument in the medium term. 

26 
27 

Established by Council Act 2001, OJ C 326 of 21.11.2001, p. 1. 
COM(2003)688. 

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The  traceability  of  financial  flows  is  crucial  to  prevent  corporate  malpractices.  No 
systematic traceability exists for on-line transactions. To address this there could be a need 
to explore whether electronic payments even over open networks, should be recorded and 
stored.  CTose28  is  currently  being  set  up  within  the  CTose  Foundation;  it  could  enable 
gathering of electronic evidence that will stand up in criminal court proceedings. 

There are hardly any reliable figures on the extent to which e-commerce, e-cash activities 
or  other  Internet  based  financial  transactions,  are  used  for  criminal  activities.  Hence  a 
project to identify and quantify financial crime activities and trends using the Internet as 
payment infrastructure, including potential solutions for enhanced traceability is planned. 

Currently effects of disqualifications are limited to the territory of the Member State that 
ordered  the  disqualification.  Certain  categories  of  disqualifications  should  be  recognised 
and enforced throughout the EU. The Commission will in 2004 make proposals to improve 
the  exchange  of  information  on  criminal  convictions  and  disqualifications.  An  efficient 
mechanism 
that 
disqualifications are applied throughout the EU29. 

transmission  of 

is  necessary 

information 

to  ensure 

this 

for 

On  the  basis  of  thorough  analysis  of  corporate  liability  an  EU  policy  on  this  could,  if 
appropriate,  address  fines  and  other  penalties  for  failure  to  comply  with  existing 
legislation.  The  common  criteria  for  these  sanctions  would  be  that  they  should  be 
effective, proportionate and dissuasive. 

On  28  May  2003  the  Commission  adopted  a  Communication  on  a  comprehensive  EU 
policy  against  corruption30.  The  Commission 
the 
Communication by urging Member States to meet their obligations. 

is  actively  following  up  on 

Effective identification, freezing, seizing and confiscation of laundered proceeds would be 
enhanced if Member States establish specialised national bodies. An informal co-operation 
network among such bodies would further enhance their effectiveness. In the longer term 
the  Commission  will  examine  whether  there  is  a  need  for  a  further  instrument  on  asset 
sharing and restitution of confiscated proceeds. 

Further initiatives are ratification of the 2nd protocol of the PFI Convention31 and Proposal 
on  Mutual  Administrative  Assistance  on  Protection  of  Community  Financial  Interests, 
which aims to reinforce mutual administrative assistance and the exchange of information 
in fighting EC fraud and related money laundering. 

5. 

Conclusion 

Although many of the EU’s policies underway deal with a wide range of issues identified 
there  is  a  need  now  to  accelerate  the  implementation  and  enforcement.  However,  as  this 

28 
29 
30 
31 

Cyber Tools On-line Search for Evidence 
See also COM(2004)221 
COM (2003) 317 final 
Protocol to the Convention on the protection of the European Communities' financial interests (OJ 
C 313 of 23.10.1996, p. 1) THE COUNCIL OF THE EUROPEAN UNION 

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11 

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paper shows, new policy initiatives are required in the tax and third pillar areas to reduce 
the propensity of corporate and financial malpractice. 

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Annex 1: International level 

Below is set out some international initiatives that will contribute to reinforcing the lines 
of defence. 

1st line of defence - International level 

Accounting  standards  are  crucial  to  the  first  line  of  defence.  Therefore  the  accounting 
standard  setting  process  itself  must  be  as  transparent  as  possible.  The  Commission  has 
engaged  in  a  reform  process  to  make  the  International  Accounting  Standards  Board 
(IASB) improve its working methods. The reform should be carried through by 2005. 

2nd and 3rd line of defence - International level 

Both the EU and the OECD achieved significant progress in tackling harmful tax practices 
based inter alia on non-transparency. Part of the OECD work is oriented towards so-called 
tax havens, and more than 30 offshore financial centres committed to the OECD principles 
of transparency and exchange of information in tax matters. An OECD Model Agreement 
on Exchange of Information on tax matters was jointly elaborated by OECD countries and 
cooperative tax havens. Its implementation is subject to OECD members and cooperative 
tax havens together setting those standards of transparency to be applied to access relevant 
information,  detail  the  type  of  information  to  be  made  available,  the  persons  concerned 
and how to record the accounts. 

Although,  subject  to  their  EU  commitments,  EU  Member  States  are  free  to  define  their 
position on direct tax matters within the OECD, the Commission considers it desirable that 
they  have  a  more  coordinated  approach  in  setting  standards  to  be  applied  in  offshore 
financial centres, to ensure that such standards adequately facilitate information exchange 
with the EU.  

The  implementation  of  the  cooperative  tax  havens'  commitments,  and  of  transparency 
rules,  relies  on  bilateral  exchange  of  information  agreements  with  individual  OECD 
member countries. The Commission recommends EU Member States to rapidly conclude 
such agreements to better promote transparency towards offshore financial centres. 

The  EU  has  strong  relationships  with  some  offshore  centres  that  lack  transparency,  in 
which  Parmalat  had  subsidiaries,  and  that  were  scrutinized  by  international  initiatives 
promoting transparency. These EU relationships could be used to promote the principles of 
transparency  and  exchange  of  information,  in  line  with  the  guiding  principle  the 
Commission  adopted  in  2001  that  “better  consistency  should  be  sought  in  defining  EU 
policies towards cooperative and non cooperative tax havens.” The time has now come for 
concrete actions to ensure that our partners are transparent. 

First,  the  EU  partners  should  support  transparency  and  exchange  of  information  in  the 
financial and tax fields in their relations with the EU. The Commission intends to discuss 
this in its policy dialogue with third countries and dependent territories, as well as possibly 
when negotiating or updating an association agreement, with a view to identifying possible 
ways  forward.  This  could  be  applied  to  ongoing  negotiations  such  as  the  economic 
partnership  agreements  with  the  African,  Caribbean  and  Pacific  or  other  countries.  In 
addition  to  this,  in  order  to  achieve  our  objectives,  the  EU  should  be  prepared  to  assist 

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partner countries to put in place regional rules on these issues. It should however not be 
considered as a scoreboard aimed at setting up a basis for conditionality or selectivity, but 
as a tool for practical improvements in standards. 

Second,  positive  actions  could  help  cooperative  partners  to  overcome  difficulties  of 
regulatory, technical or economic nature when introducing more transparency, in the form 
of reinforced technical assistance, where the EU as a whole has a considerable experience, 
or  through  some  form  of  economic  support  for  a  limited  period  of  time.  Several 
instruments are available, e.g. the Cotonou agreement. The annual and mid-term reviews 
of  Country  Strategy  Papers  could  also  provide  for  appropriate  actions.  The  Commission 
will  monitor  the  efficiency  and  the  progress  made  by  offshore  financial  centres  towards 
more transparency. 

Financial  market  supervisors  cooperate  internationally  Securities  supervisors  within  the 
International  Organization  of  Securities  Commissions  (IOSCO).  Banking  supervisors 
within  the  Basel  Committee;  Insurance  supervisors  cooperate  within  the  International 
Association  for  Insurance  Supervisors  (IAIS).  Pension  regulators  also  have  an 
international  network.  The  Basel  Committee,  IOSCO  and  IAIS  have  established  a  Joint 
Forum  to  examine  supervisory  issues  of  common  interest.  The  Joint  Forum  is  currently 
analysing  Credit  Risk  Transfer  and  it  has  recently  published  a  report  on  enhanced 
disclosure. 

Within IOSCO the following aspects are subject to scrutiny: corporate governance and the 
role  of  independent  directors;  auditor  oversight  and  the  effectiveness  of  audit  standards; 
regulatory  oversight;  use  of  complex  corporate  structures  (e.g.  special  purpose  vehicles 
and  complex  shareholding  structures);  role  of  market  intermediaries  and  market 
“gatekeepers,”  such  as  investment  banks  and  broker-dealers;  role  of  private-sector 
information  analysts  (e.g.  securities  analysts  and  credit  rating  agencies);  and  offshore 
financial centres. In IAIS a discussion is how the US accreditation system can inspire an 
international accreditation system for supervisors supervising reinsurance companies. 

As in the field of accounting, the Commission considers it important that global standards 
are  used  in  auditing.  The  Commission  has  proposed  in  the  8th  Company  Law  Directive 
that all statutory audits prescribed by Community law should be carried out in accordance 
with International Standards on Auditing (ISAs). Adoption by the Community of ISAs will 
be subject to strict conditions, such as the respect of proper due process. A final decision 
on  whether  and  to  what  extent  to  endorse  ISAs  will  depend  largely  on  satisfactory 
governance  arrangements  relating  to  the  operation  of  the  International  Auditing  and 
Assurance  Standards  Board.  This  will  help  to  secure  the  recognition  of  EU  audited 
financial statements also in third country jurisdictions. It is also a logical consequence of 
the  introduction  of  International  Accounting  Standards  in  the  EU.  The  objective  is  that 
ISAs are applied worldwide. 

4th line of defence - International level 

The UN Convention against Corruption will be signed by the Commission on behalf of the 
EC, upon receipt of the necessary authorisation by the Council. The majority of Member 
States and acceding countries signed the UN Convention in December 2003. 

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Council of Europe: 

Council of 
Europe 
Conventions 
on corruption 

Signature 

Ratification 

Entry into force 

EU 15 

New 
Members 

EU 15 

New Members  EU 15 

New 
Members 

Criminal Law 
Convention 

All MS except 
ES 

All  

B,  DK,  FI,  IE, 
NL, PT, UK 

All  

DK, FI, IE, NL, 
PT, UK B 

All 

Civil Law 
Convention 

All MS except 
ES, NL, PT 

All 

FI, EL only 

All except LV 
and CY 

FI, EL 

All except 
LV and CY 

The  Council  of  Europe  has  established  a  monitoring  mechanism  (GRECO)  in  respect  of 
the implementation of these Conventions. All Member States (except Italy and Austria) are 
members of GRECO. 

A new Protocol to the Council of Europe Convention on Money Laundering is currently 
negotiated.  Issues  considered  include  preventive  duties  of  control  for  money  laundering 
purposes,  terrorist  financing  and  international  cooperation  in  criminal  matters  that  touch 
both on first and third pillar competencies. 

Moreover,  it  is  important  to  mention  the  anti-fraud  agreement  with  Switzerland,  which 
following a subsequent Council Decision will have to be adopted by the Community and 
the Member States. 

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Annex 2: Overview of initiatives to reinforce the four lines of defence  

1ST LINE OF DEFENCE – INTERNAL CONTROL IN THE COMPANY 

Short  term  –  Actions  completed  before 
end 2004 

Medium Term – December 2005 

Long term 

EU-action 

International 
level 

of 

accounting 

Revision 
directives 
(transparency  in/of  groups  structure  and 
activities,  including  any  use  of  special 
purpose  vehicles;  clarify  responsibility  of 
directors  for  the  financial  statements  and 
key  non-financial  information;  and  listed 
companies  to  publish  annual  corporate 
governance statement) (Lead: MARKT)* 

adoption 

Final 
accounting 
directives  by  Council  and  EP  – 
December 2005 (Lead: MARKT)* 

of 

implementing 
Final  adoption  of 
measures 
transparency 
the 
directive – 2005 (Lead: MARKT)** 

for 

Recommendation 
(independent) 
supervisory directors (Lead: MARKT)* 

on 
the 
non-executive 

role 

Proposal  on  facilitating  the  exercise 
of  shareholders  rights  cross  border 
voting – 2005 (Lead: MARKT)* 

of 
or 

Recommendation 
remuneration (Lead: MARKT)* 

on 

directors 

Set  up  Corporate  Governance  Forum 
(Lead: MARKT)* 

Follow the work of the IASB and endorse 
international  accounting 
standards  as 
appropriate (Lead: MARKT)* 

Initiate  study  on  beneficial  ownership 
(Lead: MARKT) 

Follow  the  work  of  the  IASB  and 
accounting 
endorse 
standards  as  appropriate 
(Lead: 
MARKT)* 

international 

Report  on  beneficial  ownership  – 
including 
for 
actions  –  December  2005  (Lead: 
MARKT) 

recommendations 

EFRAG  and  IASB  reformed  –  June 
2005(Lead: MARKT) 

Proposals  on  key  aspects 
liability 
of 
directors’ 
(disqualification 
of 
directors  and  wrongful 
trading)  –  2006  (Lead: 
MARKT)* 

Follow  the  work  of  the 
endorse 
IASB 
and 
international 
accounting 
standards  as  appropriate 
(Lead: MARKT)* 

application 
(Lead: 

standards 

Worldwide 
IAS 
MARKT)* 

* 

** 

Initiatives  that  were  announced  in  the  Action  Plan  on  Company  Law  and  Corporate  Governance.
The initiative regarding disqualification of directors and wrongful trading has been moved forward
to 2006 
Initiative that is part of the Financial Services Action Plan 

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2ND LINE OF DEFENCE – INDEPENDENT THIRD PARTIES 

Short  term  –  Actions  completed 
end 2004 

Medium Term – December 2005 

Long term 

EU-level 

Directive  on  statutory  Auditing 
(revised 8th company law directive) 
(Lead: MARKT)* 

Final  adoption  of  directive  on 
statutory  auditing  by  Council  and 
EP– June 2005 (Lead: MARKT) 

Third  Anti  Money  Laundering 
Directive (Lead: MARKT)** 

to 

Regulation 
Special 
Terrorist 
MARKT)**** 

Recommendation 

implement  FATF 
on 
(Lead: 

Financing 

Report  on  Financial  Analysts 
(Lead: MARKT)*** 

Official position on rating agencies 
(Lead: MARKT)*** 

International 
level 

Regulatory  cooperation  on  Audit 
standards (Lead: MARKT)* 

Third  Anti  Money  Laundering  - 
Final adoption by Council and EP – 
first  half  of  2005 
(Lead: 
MARKT)** 

- 

Poss. follow up on financial analysts 
– June 2005 (Lead: MARKT)*** 

Poss. follow up on rating agencies – 
June 2005 (Lead: MARKT)*** 

measures 

Implementing 
for 
Directive  for  Markets  in  Financial 
Instruments  –  Conflict  of  Interest  - 
June 2005 (Lead: MARKT)** 

Adoption of the proposal on customs 
cooperation  –  December  2005 
(Lead: TAXUD) 

- 

ISAs 

Influence 
providing 
conditions  are  met  ISAs  will  be 
(Lead: 
endorsed  – 
MARKT)* 

June  2005 

Implementing  measures 
for 
for 
Directive 
Markets 
in  Financial 
– 
Instruments 
December  2006  (Lead: 
MARKT)** 

Worldwide  application 
of 
(Lead: 
MARKT)* 

ISAs 

* 
** 
*** 

Initiatives that were announced in the Action Plan on Company Law and Corporate Governance. 
Initiative that is part of the Financial Services Action Plan 
Follows from the meeting in the ECOFIN-Council in Oviedo in April 2002. MEP Kataforis has also
in a report by the European Parliament raised the issue of Credit Rating Agencies 

****  Originally part of the planned new legal framework for payments but separated out. 

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3RD LINE OF DEFENCE – SUPERVISION AND OVERSIGHT 

Short  term  –  Actions  completed  before 
end 2004 

Medium Term – December 2005 

Long term 

EU-level 

Initiate  study  on  consequences  for  retail 
investors  and  transparency  in  the  bond 
market. (Lead: MARKT) 

Report  on  implications  for  retail  investors  – 
recommendations for action – December 2005 
(Lead: MARKT) 

Schedule  Fiscalis  seminars  promoting  best 
practices  to  deal  with  complex  corporate 
structures(Lead: TAXUD) 

Examine  with  MS  relevant  information  to  be 
passed on to tax authorities (Lead: TAXUD) 

Working  party  to  develop  concrete  proposals 
targeted  at  tax  fraud  and  tax  avoidance  cases 
involving  complex  non-transparent  structures 
(Lead: TAXUD) 

Consider  developing  common  definitions  of 
tax fraud and avoidance (Lead: TAXUD) 

Propose  revision  of  the  Mutual  Assistance 
directive – December 2005 (Lead: TAXUD) 

Propose/consider  improvements  on  access  to 
bank information for tax purposes – December 
2005 (Lead: TAXUD) 

Explore 
extension and 
improvement of 
automatic 
exchange of 
information by 
use of new 
technology – 
2006 (Lead: 
TAXUD) 

Examine with 
Member States 
the possibility of 
a company 
identification 
number for direct 
tax purposes 
(Lead: TAXUD) 

International 
level 

IOSCO  task  force  on  Parmalat  (Lead: 
MARKT) 

Joint Forum Report on Enhanced Disclosure 
MARKT)
(Lead: 

Joint Forum Report on Credit Risk Transfer – 
(Lead:  MARKT) 
December 

2005 

between  MS 

Coordination 
the 
Commission  on  line  to  pursue  in  the  OECD 
group on accounts (Lead: TAXUD) 

and 

that 

Further  good  governance  on  supervisory 
issues relating to tax, financial services etc. 
Ensure 
support 
transparency  and  exchange  of  information 
principles  in  the  financial  and  tax  fields. 
Positive 
our  most 
cooperative partners. (Lead: TAXUD) 

partners 

towards 

actions 

EU 

Recommend  Member  States  to  conclude 
exchange  of  information  agreements  with 
offshore financial centres. (Lead: TAXUD) 

Initiatives that were announced in the Action Plan on Company Law and Corporate Governance. 
* 
Initiative that is part of the Financial Services Action Plan 
** 
*** 
Follows from the meeting in the ECOFIN-Council in Oviedo in April 2002. 
****  Originally part of the planned new legal framework for payments but separated out. 

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4TH LINE OF DEFENCE – LAW ENFORCEMENT 

Short  term  –  Actions 
completed  before  end 
2004 

Framework Decision on 
confiscation of crime-
related proceeds, 
instrumentalities and 
property (lead JAI) 

Framework Decision on 
the execution in the EU 
of confiscation orders 
(lead JAI) 

Communication on EU 
Disqualifications – 
could address an 
information exchange 
mechanism to ensure 
that disqualified 
professional persons 
including company 
directors, cannot re-
enter that profession in 
another MS. (lead JAI) 

Commission Proposal 
on mutual administrative 
assistance on the 
protection of the 
Community’s financial 
interests against fraud 
and any other illegal 
activities which has 
been adopted by the 
Commission on 20 July 
((COM2004)509). 
(Lead: OLAF) 

EU-level 

International 
level 

Medium Term – December 2005 

Long term 

Instrument  on  asset  sharing  and 
confiscated 
of 
restitution 
proceeds (lead JAI) 

Corporate liability – develop EU 
policy  on  administrative,  civil 
and  criminal  corporate  liability. 
(lead JAI) 

Improved  cooperation  among  FIUs  via  FIU-NET  – 
December 2005 (lead JAI) 

MoU  –  FIU  and  supervisors  –  December  2005 
(Lead: JAI) 

Improved  cooperation  FIU’s  and  other 
law 
enforcement  authorities  –  December  2005  (Lead: 
JAI) 

Program  on  investigative  techniques  –  December 
2005 (Lead: JAI) 

Instrument on obstruction of justice to include such 
things as wilful destruction of documents to destroy 
financial paper trail. December 2005 (Lead: JAI) 

Develop enhanced co-operation between private and 
public sector stakeholders with a common interest to 
combat/reduce organised crime (EU Action Plan on 
Public Private Partnerships). (lead JAI) 

Traceability  of  on-line  financial  flows  –  Launch  of 
Research  Project  re  money  laundering  and  other 
financial  crime  vulnerabilities  of  the  Internet  as 
payment infrastructure. (lead JAI) 

of 

national 

establishment 

Promote 
bodies 
specialised  in  identification,  seizing,  freezing  and 
confiscation  of  criminal  assets.  Promote  co-
including 
operation 
such 
establishment  of  network  of  “asset 
recovery 
bodies”. (lead JAI) 

among 

bodies 

Ratification  of 
Convention (Lead: OLAF) 

the  2nd  protocol  of 

the  PFI 

Follow up to anti-fraud agreement with Switzerland 
by Council Decision on signature and conclusion of 
this  agreement.  Subsequent  implementation  the 
Community and Member States. (Lead: OLAF) 

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