The Electoral Commission has opened an investigation into Ukip after allegations the party misspent taxpayer-funded EU cash, the watchdog has announced.

A leaked audit compiled by the European Parliament Bureau claimed the party misspent around £400,000 of taxpayers' money to fund its own electioneering.

The report said the money, meant to support the party's fuctions at a European level, was used as “indirect financing of a national political party” and “a referendum campaign” – both of which are prohibited.

Interim leader Nigel Farage dismissed the allegations, telling Sky News, which unearthed the dossier, that his party was being "victimised".

The Electoral Commission said it had been officially approached by the Euroepan Parliament with the allegations on the evening of Monday 21 November.

The elections watchdog confirmed that it was against the rules to use the funding for “the direct or indirect funding of national parties, election candidates and political foundations at either the national or European level”.

The organisation said in a statement: “The Electoral Commission has opened an investigation regarding the UK Independence Party (Ukip) to ascertain whether the party accepted impermissible donations from the European political party the Alliance for Direct Democracy in Europe (ADDE) and its affiliated foundation the Initiative for Direct Democracy in Europe (IDDE).”

If the money is deemed to be an “impermissible donation” the party could face a fine of up to £20,000 and be forced to repay the money through the courts.

The Commission said it had in recent weeks “already met with representatives of the Euroepan Parliament an inspected material that it gathered as part of its audit”.

The watchdog's investigation is to ascertain whether the party breached UK law on donations to political parties, as outlined under the Political Parties, Elections and Referendums Act 2000.