The Serious Fraud Office has been called in to investigate security giant G4S for overcharging for the tagging of criminals.
Justice Secretary Chris Grayling told MPs the overcharging of the Government by the company and its rival Servo came to "tens of millions of pounds".
An initial audit uncovered charges made when neither firm was providing tags and in a few cases where the offender had died, Mr Grayling said.
The overcharging began at least as far back as the start of the current contracts in 2005 but could also have happened under the previous deals of 1999, the report found.
Officials in the Ministry of Justice (MoJ) discovered some of the issues after a routine inspection in 2008 but nothing was done, Mr Grayling said.
Serco has agreed to take part in an additional independent forensic audit so that the Government can rule out any dishonesty but G4S has refused to do so.
Serco has agreed to an extra independent forensic audit Serco has also agreed to withdraw from the tender process for electronic monitoring. G4S is still trying to bid but the Justice Secretary is taking steps to exclude it.
"The billing practices in question were clearly unacceptable and the Government will take all necessary steps to secure a refund for the taxpayer," he told MPs.
The current contracts covering tagging of offenders on bail and under community supervision were awarded under Labour in 2004 and are due to expire shortly.
The first audit was commissioned when billing issues were uncovered as the contracts went back out to tender.
Auditors found the firms had charged the Government for tags on prisoners who were back in prison, had had their tags removed, left the country or had never been tagged in the first place.
Mr Grayling expressed astonishment at the charges, which he called "a wholly indefensible and unacceptable state of affairs".
"The House will also be surprised and disappointed to learn that staff in the Ministry of Justice were aware of a potential problem and yet did not take adequate steps to address it," he added.
He told MPs he had no information about any dishonesty at either firm but had asked the SFO to consider whether it needs to investigate G4S and look at whether either company had gone beyond contractual breaches.
G4S suffered losses of £88m after bungling its Olympics contract The MoJ is now conducting forensic audits of all existing contracts it has with G4S, and the Cabinet Office is reviewing all contracts held by G4S and Serco across Government.
The revelations have affected the bid to take over management of prisons in Northumberland and Yorkshire.
Serco was the leading bidder for the Yorkshire services but Mr Grayling has delayed awarding the contract until the audit is complete. Sodexho won the Northumberland bid.
The probe comes as Mr Grayling rolls out plans that will see up to 70% of probation services turned over to the private sector or charities, under what he has dubbed a "rehabilitation revolution".
The likes of G4S and Serco were set to bid for a wide range of payment-by-results contracts to supervise low to medium level offenders across England and Wales.
Figures last month revealed Government spending on contracts with the security giant soared in 2013/13 to £394m, a rise of 20% on the previous year.
Shares in both companies fell by almost 4% after the Commons statement.
G4S is no stranger to controversy after it botched its London 2012 Olympics contract by failing to provide enough security staff for the £284m contract. More troops had to be called in to fill the gap and the firm was left nursing losses of £88m.
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