The Westminster Catholic Children's Society, whose president is Cardinal Cormac Murphy-O'Connor, will ignore new rules that require it to place children with same-sex couples.
While other Catholic adoption agencies are caving in to the legislation by severing their ties with the Church or even closing, the Westminster Society will continue its policy of placing children only with married heterosexuals and single people.
Its stance will set the Cardinal - who welcomed Tony Blair into the Catholic Church last December - on a collision course with New Labour and the gay rights lobby.
It is a high-risk strategy that could provoke a costly and bruising test case in the courts, with campaigners determined to see the Society closed down.
But advisers to the Cardinal, the head of the Catholic Church in England and Wales, believe they have found a legal loophole that could allow the Society to remain open and loyal to Catholic teaching, which opposes gay marriage and adoption by gay couples.
The Government, which forced the Sexual Orientation Regulations through Parliament after a bitter Cabinet battle and in the face of fierce opposition from religious leaders, would be severely embarrassed by a defeat in the courts.
Ministers were already reeling last night from a leaked report commissioned by the Church of England, which accused them of favouring Muslims over the Established Church and creating a moral vacuum in the country.
The Society, which was founded in 1764, has been advised by lawyers that if it amended its constitution it could comply with the Sexual Orientation Regulations, which take effect next year and aim to end discrimination against gays by businesses.
At the moment, the constitution simply refers to helping couples who wish to adopt. However, a quirk in the wording of the regulations means that the Society may be able to protect itself by amending its constitution to refer directly to married heterosexual couples.
The Cardinal said yesterday: 'I fully support the decision of the trustees in their endeavours to continue the valuable work of the Society.'
His defiance could influence Catholic agencies that are still considering their fate, although some have already thrown in the towel.
And it will be welcomed by London's Catholics, who raise thousands of pounds each year for the Society. In 2001 the comedian Frank Skinner donated £125,000 he won on ITV's Who Wants To Be A Millionaire?
Jim Richards, the Society's director, said that by spelling out the charitable aims of the Society, it could be judged to have satisfied Section 18 of the Regulations, although this does not appear to have been the Government's intention.
He added: 'We simply want to continue to do what we have been doing for many years reasonably successfully. Adoption is a very important part of the Church's work with children who are extremely vulnerable.'
He said the crisis need not have happened if the Government had given an exemption to adoption agencies, as other EU countries had done.
'Other countries don't see adoption as goods and services and therefore it doesn't fall under their regulations,' he said. 'This is a problem of the Government's making which has been foisted on us.'
Neil Addison, a barrister and expert in religious discrimination, said that British law surrounding the Sexual Orientation Regulations was 'untested' and any action launched against the adoption agency would have an 'uncertain outcome'.
He said that the Church might be able to appeal to human rights legislation, adding: 'When you have such a cocktail of law and competing rights, you have ample scope for legal argument, negotiation and compromise.'
Praising the Society's stand, Mr Addison said: 'The Church may not win, but if Catholic agencies are to be closed and deprived of their right to provide these services, let that be done - and be seen to be done - by the Government and not by the Church.'
The Catholic Children's Rescue Society of the Diocese of Salford became the first of the 13 Catholic adoption agencies in England and Wales to say it would stop assessing potential adopters because of the new gay laws.
Jim Dobbin, a Manchester Labour MP and a Catholic, said:
'It is a tragedy. There is a shortage of people willing to adopt and there is something very wrong when some of the better and more efficient agencies feel they have to close because they can't conform with what the Government demands.'
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