THE Government will receive a second blow today in the cash-for-honours affair with an all-party group of MPs ordering Downing Street to stop using peerages to reward donors to parties and pet political projects.

As Downing Street was left reeling from the arrest of the Labour fundraiser Lord Levy, the Public Administration Committee delivered a devastating report into what it called the damaging way Labour has undermined the credibility of the House of Lords. It demanded that in future the party follow the spirit as well as the letter of the law.

“The impression of peerages being offered as inducements in kind, rather than conferred in the expectation of future participation in the legislature, is damaging,” the committee said. “To the extent that it happens, it should stop.”

The system must be reformed so that the Lords Appointments Commission has greater powers to establish the “true financial links” between an individual nominated for a peerage, political parties and their associated projects.

The report comes after friends of Sir Gulam Noon told The Times that Lord Levy had told him to remove references to his £250,000 loan to Labour from his peerage application form. The committee was also critical of the way that people appear to have been rewarded for giving to Labour’s pet political projects, such as city academies. Des Smith, an adviser to the Specialist Schools and Academies Trust, which raises money for the schools project, was arrested in April. He told reporters posing as donors that they could go to the Lords in return for their support for a city academy.

The committee said: “The ability (to assess someone for an honour) has become increasingly complicated by awards made to individuals who also support particular government policies or government programmes, especially ones where there is a requirement for financial sponsorship or the taking up of contracts by the private sector to ensure the policy succeeds.”

The committee added that the decision of the commission to rely on the Electoral Commission Register was flawed because there was ambiguity as to what constituted a donation. The process must become more transparent, and the committee questioned whether the commission should continue to fulfil this function.

Sir Alistair Graham, the head of the Committee on Standards in Public Life, told the committee that any system that allows peerages to be given to people who give to pet political projects was corrupt. The committee suggested that the honours system, which recognises people’s contribution to society, should be completely separate from peerages, which should be reserved for people who would make a contribution to the work of the second chamber.

“Making it explicit that nominations to the peerage entail appointment to the legislature rather than the award of an honour would make those nominated to be working peers more like those appointed to be ministers in the Upper House.” The committee also suggested that there should be a more explicit definition of what constitutes “sufficient merit” for an award.

The committee was particularly critical about a potential loophole that would allow peerages nominated by Mr Blair on his departure to escape vetting by the House of Lords Appointments Commission. This suggestion was furiously denied by Downing Street when revealed in The Times a month ago. But today the committee said that the Prime Minister had been “unnecessarily equivocal” about the process.

The commission could also spell the end of the time-honoured practice of offering MPs a seat in the House of Lords in order to get them to retire early. This well-honed political practice, conducted by both Labour and Conservatives, undermines the House of Lords, the committee said. “Using appointment to the legislature as a means of party management risks undermining the workings and reputation of the House of Lords, which the Appointments Commission is charged to protect.”

The committee did, however, applaud Mr Blair’s decision, announced in March, no longer to add his name personally to the honours lists. “This decision will help reinforce the propriety and independence of the system. It is a practice which we trust will be continued by future prime ministers.”

Times Recommends

• Donor organ allowed child’s own heart to heal
• Michael Jackson: Not the final chapter
• Brüno toned down for 15 rating