More than £1bn for good causes could be lost over a legal action alleging the new licence to run the national lottery was awarded unlawfully, according to court filings seen by the Observer.

Camelot, which operated the national lottery for nearly three decades, is seeking to reverse the decision to hand the licence to its rival Allwyn. It will go to court later this month in an appeal to delay the handover of the £6.4bn contract. The case threatens to embroil the lottery in its biggest controversy since it was launched in 1994 – and there is even a risk the lottery will be suspended for the first time in its history.

The Gambling Commission warns in a legal submission obtained by the Observer: “In the worst scenario, there will be a gap in service between the expiry of the third licence on 31 January 2024 and the commencement of the fourth licence. The commission anticipates there will be an overall shortfall of payment to good causes of at least £1bn and, in the case of an interregnum, considerably more.’

The lottery raised about £1.9bn for good causes in 2020-21. The money raised is donated by 12 distributors, including UK Sport, which invests funds to maximise performance of UK athletes in the Olympic and Paralympic games; the National Lottery Heritage Fund; and the National Lottery Community Fund, which provides money for food banks.

Kevin Brennan, the Labour MP and a member of the Commons select committee for digital, culture, media and sport, said: “Any delay in the handover of the lottery that denies money going to good causes would be a disaster, particularly at a time when people are facing increasing hardship.

“It would be better for everyone if this matter was resolved quickly and the new lottery operator takes over as soon as possible.”

Allwyn is due to take over the running of the lottery from February 2024 but will not have time to prepare if Camelot succeeds in its court appeal to delay the handover. New legislation may be required for an interim operator or the lottery may even have to be suspended.

The case will raise the question of why the Gambling Commission did not ensure there was sufficient time in its timetable to allow for likely legal challenges. It will also examine the highly contested scores the regulator gave to the rival bids. To date, the scores are confidential.

The battle for the fourth licence of the lottery was fiercely contested, with Czech-owned operator Allwyn pledging to rejuvenate the national draws and cut the cost of ticket prices to £1. Allwyn is part of a lottery and technology group headed by the Czech billionaire Karel Komárek.

In the weeks leading up to the announcement, executives at the red-brick and glass headquarters of Camelot in Watford were increasingly confident they had won, despite Allwyn’s eyecatching proposals.

They were told their business plan, a key component of the bid, had won more points than Allwyn’s. One newspaper even reported the firm was on track to win the bid with a headline: “Camelot hits the National Lottery jackpot – again.”

There was astonishment and anger in Watford when Allwyn was named the winner, beating three other contenders including Camelot. Executives at the incumbent lottery operator were baffled at how the prize had slipped from their grasp. “They understood they had lost,” said one source. “They just didn’t understand how.”

One of the key reasons that Allwyn won was its forecast of raising £38bn for good causes during the 10-year licence. By comparison, Camelot, which is owned by the Ontario Teachers’ Pension Plan investment fund, has returned more than £46bn to good causes over the 28 years it has run the lottery. Camelot argues that the regulator did not properly evaluate the risk that Allwyn may not deliver on its ambitious proposals.

A risk factor of 0% – known as the solution risk factor – was ultimately applied to both bids, according to the legal claim in the High Court. Camelot argues that if the correct risk factor had been applied, it “would have been appointed the preferred applicant.”

The key battleground for the bid was the business plans of the rival bidders, which had five separate sections. Camelot executives were convinced they had beaten Allwyn on three of the sections – games, channels and transition – and drawn on the other two sections.

The particulars of a claim filed by Camelot states that the Gambling Commission failed “correctly and lawfully” to evaluate the bids and “committed manifest errors”. It wants an order setting aside the decision to appoint Allwyn as the preferred applicant or damages in an amount to be assessed.

The Gambling Commission says the competition was open, fair and robust. It denies the claims against it or any breach of its legal obligations.

The case is due to be heard early next year, but Camelot is arguing that the handover to Allwyn should be suspended until the case is heard. A judge ruled in June the handover should go still ahead, but Camelot will go to court later this month in an appeal against that decision.

If Camelot is unsuccessful in delaying the handover, it will seek damages. The total claimed damages for Camelot and its technology partner International Game Technology would be about £600m.

A Camelot spokesperson said the Gambling Commission was risking a damages claim of hundreds of millions of pounds by trying to award the licence before the legal challenges were exhausted.

A spokesperson said: “This massive bill is entirely avoidable by simply waiting until after the court ruling before issuing the contract to run the national lottery.

“Good causes and the taxpayer should never have been put on the hook for hundreds of millions of pounds. Thankfully, there is still time for the regulator to change course, and we urge them to do so.”

An Allwyn spokesperson said: “The hearing in September represents the last opportunity to avoid even more losses to good causes, on top of the damage that has already been caused by the delay so far. Camelot will still have its day in court in the new year, in which we are confident it will be demonstrated that the Gambling Commission ran a thorough, proper and robust competition.”