Justice secretary Chris Grayling has asked the Serious Fraud Office to investigate contractor G4S after telling parliament that it and rival Serco had overcharged the government by ‘tens of millions of pounds’ for tagging criminals.

Grayling said the firms had charged the government for tagging people who were in prison, had left the country or died, though he said there was no evidence of dishonesty.

He said he had referred G4S following ‘clear legal advice’ after the company refused to take part in a forensic audit of the contract. Serco has agreed to a forensic audit, he said.

A investigation into the way the MoJ managed the contracts would also be carried out, Grayling said, as officials had been aware of the potential problem since 2008 and failed to take adequate steps to address it.

He told MPS that all government contracts with both G4S and Serco would be reviewed, but said that the plans to outsource probation would not be put on hold, despite the fact that the companies are likely to be the main bidders.

‘I am angry at what’s happened and determined to put it right,’ said Grayling.

In a statement on its website G4S said it is conducting its own review, assisted by external advisers. It said it has not received a claim for a refund, but if its review identifies any over billing, it will reimburse the ministry.Group chief executive Ashley Almanza said: ‘We place the highest premium on customer service and integrity and therefore take very seriously the concerns expressed by the Ministry of Justice. We are determined to deal with these issues in a prompt and appropriate manner,’ he said.

A statement from Serco said it would repay the amount agreed and ‘cooperate fully’ with the ministry on its audit of government contracts. In light of the investigation it said it has decided to withdraw from the re-tendering process for the electronic monitoring service, but said the ministry has reconfirms that it is the single remaining bidder for the South Yorkshire group of prisons, although the award will be delayed and is dependent on the outcome of MoJ’s audit.

Chief executive Christopher Hyman said: ‘Serco is a business led by our values and built on the strength of our reputation for integrity. We are therefore taking this extremely seriously and will continue to work closely with our customer to resolve their concerns in this matter. We will not tolerate poor practice and behaviour and wherever it is found we will put it right.’

Shadow justice secretary Sadiq Khan called for an immediate police and SFO investigation as ‘fraud has potentially taken place’. He said: ‘There can be no cosy relationships with either company if we are to truly get to the bottom of these very serious allegations.’

‘Both these companies are recipients of hundreds of millions of pounds of contracts from across government and local authorities and it is important that an immediate and independent audit takes place to make sure there are no wider irregularities involving taxpayers’ money by them or the other big players,’ said Khan.

The secretary general of the probation workers’ union Napo, Ian Lawrence, said: ‘We’ve long maintained that these companies are unfit for purpose when it comes to holding important public contracts.’ He said neither should be allowed to bid for probation service contracts.

Andrew Neilson, director of campaigns at the Howard League for Penal Reform, said: 'Today we have seen what happens when justice is for sale. Given the scale and nature of the over-charging revealed today, the secretary of state should rethink his plans to introduce yet more private sector involvement in the criminal justice system.

'In the face of such mounting evidence of failure, to do anything else would be blinkered in the extreme.'