This piece has been published by Chambers and Partners at International Fraud & Asset Tracing 2025 – India | Global Practice Guides | Chambers and Partners

National Fraud Reporting Authority – the New Sheriff in Town

Introduction

In today’s complex business landscape, auditors act as guardians of financial integrity. Their role goes beyond merely verifying numbers – they are crucial in detecting and preventing fraud, ensuring transparency and upholding public confidence in financial markets worldwide.

There has been a worldwide shift in the measures for the regulation of auditors, from the self-regulatory model towards creation of independent oversight bodies. This trend dates back to the aftermath of the Enron scandal in the early 2000s, which led to the enactment of the Sarbanes Oxley Act in 2002, and the creation of the Public Company Accounting Oversight Board in the United States of America. Even the United Kingdom set up its Financial Regulatory Commission in April 2004.

A similar need for change in the model of regulation was prompted in India by the Satyam scam which shocked the nation in 2009, serving as a wake-up call for policymakers. A need was felt for regulation of audit firms and to bring auditing norms in India on par with prevailing global standards. While Section 132 of the Companies Act, 2013 (the “Companies Act”) provided for the establishment of the National Fraud Reporting Authority (NFRA), its constitution was only notified on 1 October 2018, and provision only came into force on 24 October 2018. This delay was primarily due to opposition from the Institute of Chartered Accountants of India, which resisted the move as it significantly curtailed its jurisdictional oversight.

The NFRA was constituted with the objective of protecting the public interest and the interests of investors, creditors and others associated with the companies or bodies corporate that are under the jurisdiction of the NFRA, by establishing high-quality standards of accounting and auditing, and by exercising effective oversight of accounting functions performed by the companies and bodies corporate and of the auditing functions performed by auditors.

To fulfil this mandate, the NFRA stands empowered to:

• make recommendations to the central government on formulation of accounting and auditing policies;
• monitor and enforce compliance with accounting and auditing standards; and
• oversee the quality of service of the professions associated with ensuring compliance with such standards.

The NFRA is also authorised to investigate and impose penalties for professional or other misconduct by any member or firm of chartered accountants registered under the Chartered Accountants Act, 1949 (the “CA Act”), concerning the specified class of companies or body corporates. The power to investigate can be exercised either suo moto or on reference from the Union Government over any misconduct committed by a statutory auditor.

These powers can be exercised by the NFRA over, inter alia:

• companies whose securities are listed on any stock exchange in India or abroad;
• unlisted public companies having a paid-up capital of not less than INR1,500 crores or having an annual turnover of not less than INR1,000 crores, or in aggregate having outstanding loans, debentures and deposits of not less than INR1,500 crores; and
• banking companies, insurance companies, etc.

Upon investigation, the NFRA may take action against erring statutory auditors by:

• debarring them from practising as an auditor for a minimum period of six months, which may extend to a period of up to ten years; and
• imposing a penalty as prescribed.

As such, the NFRA is an oversight body over and above the existing framework which consisted of the authorities under the CA Act. However, no other institute or body can exercise jurisdiction and proceed with any misconduct proceedings in cases where the NFRA has already initiated an investigation.

Challenge to the constitutionality of Section 132 of the Companies Act

Recently, a division bench of the High Court of Delhi (the “Court”), in Deloitte Haskins & Sells LLP v Union of India 2025 DHC 716-DB (the “Deloitte Judgment”), upheld the constitutional validity of Section 132 of the Companies Act. In doing so, it has reinforced the growing judicial trend towards stricter scrutiny of auditors, particularly concerning their role in fraud detection.

The authors focus on the Court’s observations on two of the grounds of challenge, which highlight the recent judicial trend of enforcing strict compliance with the statutory duties of auditors as prescribed by law.

Challenge on the ground of imposition of vicarious liability on the firm and its partners

One of the grounds for challenging the constitutional validity of Section 132 of the Companies Act was that it creates vicarious liability for the audit firm and its partners, irrespective of whether that partner was involved in the concerned audit or had performed an audit function. Consequently, it was argued that such a liability amounts to an unreasonable restriction on the fundamental right of the firm and its partners to practise their profession in violation of the Constitution of India (the “Constitution”) as also amounting to the imposition of a disproportionate penalty on the firm and its partners.

On this ground of challenge, the Court held that the Companies Act explicitly contemplates an audit firm being held liable for the actions of its engagement partners and other constituents involved in conducting an audit. In reaching this conclusion, the Court relied on the following.

• Section 147(5) of the Companies Act, which the Court held provides that, if an audit firm conducts an audit and if it is proven that its partner or partners engaged in fraud, both the firm and the responsible partners would be subject to civil or criminal liability. This dual liability is reinforced by use of the phrase “jointly and severally” in the provision.
• The proviso to subsection (5), which states that in cases where an audit firm faces criminal liability – other than a monetary fine – only the partner or partners who engaged in fraud or aided in the crime would be held accountable.

Based on these provisions, the Court concluded that the Companies Act does not differentiate between the liability of an audit firm and its partners. On the contrary, it expressly provides for both the firm and its partners to be held liable. Consequently, the Court ruled that Section 132 of the Companies Act does not create any new liability beyond what is already contemplated under the statute and is, therefore, neither inconsistent with the Companies Act nor violative of Article 14 of the Constitution.

The Court further held that an audit firm cannot evade liability by distancing itself from the actions of its partners, given that audits are conducted solely because the firm has been appointed as the company’s auditor. Its appointment is not an independent engagement; rather, it is the firm – whether a partnership or an LLP – that is designated as the auditor. Consequently, the firm’s members perform their duties and fulfil their responsibilities in accordance with the directives issued by the audit firm.

The Court also relied on the accounting standards to hold that it is the liability of an audit firm to continuously and diligently monitor, regulate and control the quality of the audit. On this basis, the Court held that it would be untenable in law to hold that the firm could shrug off this responsibility when the audit is being carried out by its partners.

The Court emphasised that auditing requires ongoing diligence, monitoring and oversight, establishing an inseparable connection between the firm and its members, who operate as a unified entity. It held that to suggest otherwise would ignore the practical realities of audit engagements, where the quality and integrity of the work are inherently shared between the firm and the individuals performing it.

To conclude, the Court reaffirmed that the Companies Act establishes a clear framework of accountability for audit firms and their partners, ensuring that statutory liability cannot be circumvented by distancing the firm from the actions of its members.

The Court, however, failed to address the imposition of vicarious liability under Section 132 of the Companies Act on partners who may not have been involved in the alleged audit. In doing so, the Court failed to take into consideration that such a provision places an unreasonable restriction on the individual partners’ right to practise their profession, violating the fundamental right guaranteed under Article 19(1)(g) of the Constitution. Furthermore, the Court overlooked the plain language of Section 147(5), which states that only partners proven to have acted fraudulently would be held liable. Therefore, contrary to the finding of the Court, this provision clearly limits liability to the partner in charge and responsible for the audit, excluding other partners who had no involvement in the alleged audit.

On the issue of vicarious liability, the petitioners also argued that the provisions of the Limited Liability Partnership Act, 2008 (the “LLP Act”) do not permit an act of fraud to be attributed to the partner of a partnership firm who in no manner is involved in or had participated in the alleged fraud. On this submission of the petitioners, the Court held that Section 27 of the LLP Act makes the LLP liable for acts done by its partners “in the course of the business” of the LLP. An audit conducted by a firm or an LLP would be “in the course of the business”, therefore making the LLP liable for the acts of the partner.

While the Court acknowledges that Section 28 of the LLP Act does not impose liability on individual partners solely by virtue of their partnership, it nevertheless held that the provision must be interpreted in light of the fundamental principle that an LLP operates through its partners and members, making their actions inseparable from the firm’s overall conduct. Consequently, the Court ruled that, if an audit firm’s wrongful act is established, Section 28(2) would not shield individual partners from liability arising from the firm’s misconduct.

In doing so, the Court effectively gave the provision a context and interpretation that is otherwise not contemplated in the statute. The plain language of Section 28(2) provides that “a partner shall not be personally liable for the wrongful act or omission of any other partner of the limited liability partnership”, thereby expressly insulating partners from liability for the actions of other partners. Given this explicit statutory protection, the Court’s ruling may be flawed in its reasoning and application of Section 28(2).

Challenge on the ground of retroactive application of Section 132 of the Companies Act

The constitutional challenge primarily stemmed from the retroactive application of Section 132 of the Companies Act, which granted the NFRA the authority to initiate disciplinary proceedings against individual partners, chartered accountants and auditing firms for audits conducted even before the provision was introduced in October 2018, including those that had already commenced and concluded prior to its enactment.

On the issue of retrospective applicability, the Court observed that a provision will not apply retrospectively if it creates a new liability. However, since “professional or other misconduct” was already defined under Section 22 of the CA Act before the establishment of the NFRA, Section 132 does not introduce a new disqualification. Instead, it merely modifies the manner and extent of enforcement. The Court in this regard also relied on the explanation to Section 132(4), which clarifies that the phrase “professional or other misconduct” retains the same meaning as assigned under Section 22 of the CA Act.

The Court noted that the system of auditing in India had to keep up with the winds of change, and the constitution of the NFRA is a clear reflection of the change in policy. It also observed that the NFRA was created to fill a pre-existing regulatory gap in alignment of the government’s objectives of strengthening oversight mechanisms and enhancing the quality of professional services rendered by audit firms, and to bridge the gap in enforcement while ensuring that standards of professional conduct evolve with global best practices. This shift represents a progressive regulatory shift, aimed at reinforcing compliance and raising the standards of audit quality. The NFRA was intended to be given overarching authority for matters relating to classes of bodies corporate and persons.

Further, the Court recorded the undertaking given by the NFRA that it would not proceed against any firms in respect of an audit that may have been conducted prior to October 2018. However, the Court left the door open for the NFRA to proceed against individuals for audits prior to October 2018, essentially holding that the NFRA can exercise its jurisdiction retrospectively qua individuals. The NFRA has abided by said undertaking in the case of audit firms, whereby the show-cause notices issued to the audit firms were withdrawn by the NFRA based on the Deloitte Judgment.

Streamlining of procedure

While dismissing the constitutional challenge, the Court has quashed all show-cause notices issued even to individuals, on the ground of procedural irregularities in the manner of investigation and adjudication by the same executive body of the NFRA. The Court applied the principle of “no man can be a judge in his own cause”, in as much as the NFRA was functioning through its executive body, which would record prima facie findings of guilt and violations committed by audit firms while issuing an Audit Quality Review Report (AQRR) and then proceed to take a decision to commence disciplinary action while issuing the show-cause notice based on the very same AQRR. According to the Court, this manner of functioning would scar the process with pre-determination and unfairness. In this light, the Court quashed the show-cause notices issued by the NFRA, while granting liberty to the NFRA to draw the proceedings afresh from the stage of issuance of show-cause notices, which must be passed by members who were disconnected and disassociated from the process of audit review.

The NFRA has challenged the Deloitte Judgment before the Supreme Court in India. The Supreme Court has issued notice and will now be hearing the challenge.

The Global Reach of PMLA: Addressing Transnational Offences

The Delhi High Court’s recent judgment in Adnan Nisar v Enforcement Directorate 2024 DHC 7093 has profound implications for the transnational reach of the Prevention of Money Laundering Act, 2002 (PMLA) in India. The case delves into the issue of whether offences committed outside India can trigger proceedings under the PMLA, and the jurisdictional challenges arising from such cases. The ruling highlights the evolving nature of financial crimes in an increasingly globalised world and the necessity for India’s legal framework to adapt accordingly.

The case originated from a mutual legal assistance request from the US Department of Justice, which was forwarded to the Enforcement Directorate (ED) by Indian authorities on 23 December 2022. The request pertained to allegations against an Indian national, for offences under various US statutes, including wire fraud, access device fraud, computer fraud and money laundering. The US authorities alleged that cryptocurrency worth approximately USD527,615.45 was fraudulently transferred from a victim’s hardware wallet in Leawood, Kansas, USA.

After investigation, the ED concluded that these offences corresponded to Section 75 of the Information Technology Act, 2000, and Sections 420 and 424 of the IPC, which are scheduled offences under the PMLA. Consequently, an Enforcement Case Information Report (ECIR) was registered for further investigation.

Cross-border implications under the PMLA

The PMLA provides jurisdiction over offences committed outside India if they have financial implications within the country. Section 2(1)(ra) defines an “offence of cross-border implications” as one where:

• a person outside India commits an act that would have been an offence under Part A, Part B or Part C of the Schedule to the PMLA if committed in India, and the proceeds of crime are transferred to India; and
• a scheduled offence is committed in India, and its proceeds are transferred outside the country.

In Adnan Nisar, the Court held that the case fell under the first category, as the fraudulent transactions originated in the USA, but proceeds of crime were traced to an Indian account linked to the accused. This allowed the ED to initiate proceedings under the PMLA, treating the offence in the USA as a “predicate offence” under Part C of the Schedule, which provides for offences of cross-border implications.

Interplay between foreign laws and Indian jurisdiction

A crucial issue in this case was the applicability of foreign laws in India. Section 2(1)(ia) of the PMLA introduces the concept of “corresponding law”, which allows foreign offences to be treated as scheduled offences if they align with those listed under the Act. Furthermore, Section 2(2) states that references to scheduled offences in the PMLA can be construed as references to “corresponding laws” of foreign jurisdictions.

This statutory provision ensures that, if an offence committed abroad is akin to a scheduled offence under Indian law, it can be prosecuted under the PMLA, provided that the proceeds of crime are traced to India. The Delhi High Court upheld this interpretation, rejecting the petitioner’s argument that foreign offences should not trigger PMLA proceedings.

Challenges in enforcement and trial

While the PMLA provides the framework for prosecuting cross-border financial crimes, the accused argued that, since the trial for the predicate offence was ongoing in Kansas, the Indian Special Court had no jurisdiction under Section 44(1)(c) of the PMLA. However, the Court clarified that while Special Courts in India have discretion to assume jurisdiction over predicate offences, this is not mandatory. In cases where the primary offence is prosecuted in a foreign country, PMLA proceedings in India are limited to seizure, attachment and confiscation of proceeds of crime rather than conducting a full-fledged trial.

The judgment in Adnan Nisar highlights the growing extraterritorial reach of the PMLA and the ability of Indian enforcement agencies to prosecute offences with cross-border implications. However, challenges remain in enforcing such provisions effectively, including international co-operation, procedural complexities and jurisdictional overlaps. As financial crimes become more sophisticated, India must continue refining its mutual legal assistance treaties and cross-border enforcement mechanisms to ensure seamless prosecution of transnational money laundering cases. The ruling sets a significant precedent for future cases involving offshore financial crimes linked to India.