Donations will be returned - Brown

Mr Brown also ordered a review of the party's systems for checking on donations, after it emerged that wealthy supporter David Abrahams had channelled the cash to Labour through four middlemen in breach of rules designed to ensure transparency of political funding.

The Crown Prosecution Service (CPS) confirmed it has made "initial contact" with independent watchdog the Electoral Commission, which is carrying out its own inquiry into the affair. It would be for the CPS to bring charges if any breach of the law is uncovered, as the Commission has no power to do so.

Labour's General Secretary Peter Watt resigned on Monday after admitting he knew of the arrangements under which the true source of the money was concealed.

The Prime Minister was forced to repeatedly insist he knew nothing about the donations until they were revealed on Saturday night.

The PM was subjected to a 75-minute grilling on the issue at his monthly press conference at 10 Downing Street, telling reporters: "What has happened, where political donations have not been lawfully declared, is completely unacceptable, cannot be justified in any way, and this behaviour should never happen again in future. The money was not lawfully declared so it will be returned."

He was speaking minutes after Labour's chairman Harriet Harman revealed that she had accepted a cheque for £5,000 during her campaign for the deputy leadership from a woman who turned out to be acting as an intermediary for Mr Abrahams. Mr Brown said he had "confidence" in Ms Harman, who released a statement admitting she had accepted a £5,000 donation "in good faith" from Mr Abrahams' secretary Janet Kidd without knowing it was being given on behalf of the property developer.

However, Hilary Benn, her rival for the deputy leadership, who is now Environment Secretary, revealed that he turned down a similar donation after being told by Labour peer Baroness Jay of its true origin. He later accepted a £5,000 gift from Mr Abrahams in his own name.

And Mr Brown confirmed that his own leadership campaign turned down a cheque from Mrs Kidd, though he said that this was purely because it had been decided not to accept funding from any sources unknown to the team. He also said he could not recall meeting Mr Abrahams, a prominent Labour figure in the North East.

Mr Brown said once the facts of the issue had been established, Mr Watt's resignation was a "necessary first step", but "not enough". Asked about the possibility of a criminal inquiry into the failure to declare the true source of the funds to the Electoral Commission, the Prime Minister said he would welcome "any investigation that takes place into this".