MFSA fines regime lacks fair hearing safeguards, court rules

A constitutional court has ruled that Malta’s financial regulatory framework likely breaches the right to a fair hearing, recommending parliament to amend the law to guarantee full judicial oversight of administrative penalties.

On Monday, the Constitutional Court, presided over by Judge Rachel Montebello, found that the legal framework that allows the Malta Financial Services Authority (MFSA) to impose hefty administrative penalties lacks the necessary safeguards for a fair hearing.

The case was brought by Phoenix Payments Limited (later renamed Lazarus Long Limited) following a regulatory dispute that began in 2020. 

The company challenged both the MFSA and the State Advocate, arguing that the laws governing financial institutions and the regulator itself violated its fundamental rights.

The regulatory dispute

In May 2020, officials from the MFSA’s supervisory branch conducted extensive on-site inspections of Phoenix Payments Limited to investigate its business conduct and internal affairs. 

Based on the findings of these inspections, the MFSA’s enforcement branch issued a "Minded Letter" on 4 November 2020. 

This letter notified the company of several alleged operational deficiencies, including a lack of a functioning Board of Directors because the sole director was also the only shareholder.

The regulator also alleged that the company’s internal audit function was effectively non-existent following the resignations of its Compliance Officer and Money Laundering Reporting Officer (MLRO). 

Furthermore, the company was accused of failing to notify the MFSA of changes to its business strategy and entering new outsourcing arrangements without proper approval.

Initially, the MFSA imposed an administrative penalty of €54,000. After the company submitted written representations contesting these findings, the MFSA Executive Committee issued a final decision on 11 March 2021. 

The Authority dropped some charges but confirmed breaches related to internal governance and operational risk, setting a final penalty of €32,400. It also imposed a license restriction preventing the company from providing new services to existing clients. 

Phoenix Payments subsequently appealed this to the Financial Services Tribunal and filed this constitutional lawsuit.

When administrative fines become “criminal”

The case revolved around whether the penalties imposed by the MFSA should be considered administrative or criminal in nature.

The absence of this classification means that the accused would not be entitled to the full protections of a fair trial by an independent and impartial court, which are guranteed by criminal penalties.

While the MFSA and the State Advocate maintained that the fines were not criminal, but purely administrative, the court applied the “Engel criteria”, a legal test used to determine whether a sanction is effectively criminal regardless of how it is classified in domestic law. 

The court noted that the law requires these penalties to be "effective, proportionate and a deterrent". 

The court referred to Article 39 of the Constitution, which safeguards the right to a fair hearing.

It explained that this right requires criminal proceedings, from their very inception, to be heard before an independent and impartial court.

The court added that it would make no sense for an accused person facing proceedings that, while not formally falling within the criminal legal framework, may nonetheless produce effects comparable in nature and severity to a criminal penalty to be denied the protections of a right to a fair hearing.

Judge Montebello said that in this case, the nature of the administrative penalty imposed on Phoenix Payments had a punitive element, and also served as a deterrent, making the penalty have a “manifestly criminal appearance”. 

The court further observed that while the fine in this specific case was €32,400, the law allows the MFSA to impose penalties of up to €150,000 per breach. 

The court ruled that the potential for such substantial fines, coupled with their punitive purpose, places these matters within the "criminal sphere". The court did distinguish between the company’s failings and the penalty imposed. 

While the operational shortcomings were administrative in nature, the sanctions themselves were deemed criminal in character due to their punitive and deterrent purpose.

The MFSA’s “triple role”

The company also argued that the MFSA Act allowed the regulator to act as investigator, prosecutor, and judge in the same case. 

While the MFSA contended that its various units (Supervision, Enforcement, and the Executive Committee) operate independently, the court found that these units "are one thing and do not work independently or autonomously from each other".

The court observed that the officers who investigate a breach and recommend a penalty are employees of the same Authority that ultimately decides on the fine and collects the money.

The court said that the Authority can never be considered to be autonomous, impartial and independent.

The judge also identified a "manifest inequality of arms" because the company was legally compelled to provide information to its accuser during the investigation without the protections typical of criminal proceedings.

Flaws in the Financial Services Tribunal

The court also conducted a thorough review of the Financial Services Tribunal, the body responsible for hearing appeals against MFSA decisions. 

The judge found that the Tribunal failed the test of independence and impartiality for several reasons.

Tribunal members are appointed by the Minister for Finance for only three-year terms, which the court found provides no real "security of tenure" to protect them from external pressure.

The court also ruled that the Tribunal does not have "full jurisdiction" to review the regulator’s decisions, precluding the applicant from asking the tribunal to determine and decide if the Authority “misinterpreted the facts of the case, or if it made an error of fact”.

The court also criticised a legal provision that allows the MFSA’s own Enforcement Directorate to "assist" the Tribunal in appeal proceedings. 

The judge found this created a "manifest lack of equality of arms" because the company being fined has no such privileged access to the adjudicator.

The verdict

The court concluded that the current legal structure made a "likely breach" of fundamental rights inevitable. 

The appeal proceedings currently pending between the company and the MFSA before the tribunal were ceased, until the necessary amendments are made to the MFSA Act.

The court ruled that Parliament must change the law to ensure that any person appealing a financial penalty has the right to a "full review by the Court of Appeal on every question of fact and law". 

This new framework must allow both parties to produce all necessary evidence and witnesses before the Court of Appeal, which must have the power to confirm, cancel, or vary the original decision in its entirety.

The court ordered that a copy of this judgment be sent to the Speaker of the House of Representatives.

Each party was ordered to bear its own legal costs.