Millionaire peer and the flat in which he never spent a night

Steel magnate registered one-bed property as main home and claimed £38,

A Labour peer with a family fortune of some £500m claimed a one-bed flat as his main residence and claimed £38,000 in expenses – and admits he hasn't spent a single night there.

The steel magnate Swaraj Paul, 78, a close friend of Gordon Brown, has lived in London for 40 years. But he registered the flat – in a three-star hotel in Oxfordshire owned by the Paul family – as his main home when it was in fact occupied by one of his employees. The arrangement allowed the peer to claim up to £20,000 in cash allowances for two consecutive years between 2004 and 2006.

The revelation comes as a blow to Labour, who have reportedly received around £400,000 in contributions from the peer, the 88th richest person in Britain, including a £45,000 donation to Mr Brown's leadership campaign.

Lord Paul defended his decision to designate the flat as his main residence on the grounds that it was "available" for use by him and he could have removed the employee living there had he needed to stay. The flat, inside the Bignell Park Hotel near Bicester, has been used as living-quarters by managers at the hotel for several years.

"There is no law in this country which says that if you have a little wealth, you are not entitled to allowances," Lord Paul said. "What I have done is absolutely within rules and law."

Critics said the revelation had further damaged the reputation of the upper house after a series of expenses scandals and allegations of bribery earlier this year.

Angus Robertson, a Scottish National Party MP, called for the police and the Lords authorities to investigate the peer's expense claims. If found to be in breach of the current restricted House of Lords rules, Lord Paul could, at most, be suspended.

Matthew Elliott, chief executive of the Taxpayers Alliance, called for "full disclosure" of peers' expenses. "It's absolutely incredible that he's claimed this money – not only because he's a multi-millionaire but also that he never stayed there," he said. "Lords' expenses are a tinderbox waiting to go off. We really need a thorough look at all their expenses. It would be far better to get it out into the open."

Lord Paul, who was born in India, became a Labour life peer in 1996 and made British political history last year by becoming the first deputy speaker of Asian origin in the House of Lords.

He has described his humble origins in a "freedom fighter's family", and made his fortune building up the steel business founded by his father. He has lived in the UK since 1966, after arriving to seek treatment for his daughter, who was suffering from leukaemia and subsequently died, aged four.

He stepped down as head of his West Midlands-based company, Caparo – valued at around £1.4bn – in 1996, handing over control to his three sons.

Lord Paul is the latest peer to fall victim to revelations of members' expenses, reigniting the row over transparency in the House of Lords. Other peers coming under scrutiny include Baroness Uddin, another Labour peer, who claimed an apparently empty flat in Maidstone, Kent was her main home, leaving her entitled to overnight expenses for stays in London, and Lord Sheldon, former chair of the Public Accounts Committee, who claimed over £130,000 after designating a former family home in Manchester as his main residence while living in London.

Earlier this year, the "cash for amendments" affair damaged the reputation of the House as four peers – including two former ministers – were accused of offering to table amendments after being offered money by undercover reporters. Lord Truscott and Lord Taylor of Blackburn were suspended for six months – which was a first in more than 350 years.

Lord Oakeshott, the Liberal Democrat Treasury spokesman, said the issue was part of a much wider picture of reform in the House, which should include the issue of how peers like Lord Paul and the Conservative peer, Lord Ashcroft, both registered as non-domiciled for tax purposes, do not face hefty tax bills.

Lord Oakeshott said: "Paul is worth hundreds of millions. He's a very, very rich man. The £38,000 is a drop in the ocean to him. There's a conspiracy of silence from Labour and Tory leaders over the issue of these massive donors who aren't paying full taxes."

Lord Oakeshott said that big party donors sitting in the Lords had threatened to derail proposed legislation that would allow non-domiciled peers, or those convicted of serious criminal offences, to be expelled from the House.