I won't pay back a penny vows defiant Sir Fred

• Click here to view images of Sir Fred Goodwin's career

He defied calls from Gordon Brown, the Prime Minister, and Alistair Darling, the Chancellor, to give back some of the money – it amounts to 1,898.63 a day – or face legal action.

His refusal was attacked last night by Lord Myners, the City minister, who called it "unacceptable".

The row caused huge embarrassment for the government, after ministers admitted they knew five months ago Sir Fred's pension pot would more than double from its initial 8 million.

The former RBS chief executive is coming under intense pressure to give up at least part of his pension, which he is now receiving at the age of 50 under an early retirement deal agreed with the bank's board when he was forced out last October.

But Treasury sources last night revealed Sir Fred had written to Lord Myners to say he was not ready to waive his entitlement. "Whilst I suspect that you will not now agree with it, I hope you can understand my rationale for declining your request to voluntarily reduce my pension entitlement," he wrote.

His refusal came as RBS yesterday announced a 24.1 billion annual loss – a UK record – largely due to the disastrous strategy of corporate acquisitions pursued by Sir Fred.

The losses led to a second state bail-out, which will see some 325 billion of RBS assets placed in a taxpayer-backed protection scheme, while the government extends its near 70 per cent stake by a further 13 billion.

Mr Brown threatened yesterday to take legal action to claw back some of the 16 million pension pot. But the government faces an uphill battle if it tries to tear up a legal contract.

Sir Fred could take his case to Brussels, as many employment rights are under the jurisdiction of the European Union.

In his terse letter to Lord Myners, he suggested ministers had known about his pension rights. He said he had waived his rights to a pay-off of a year's salary – 1.2 million – and Lord Myners had indicated that was an "appropriate and sufficient recognition of the circumstances".

He also gave up rights to shares worth three months' pay. "You indicated that you were aware of my entitlement and that no further 'gestures' would be required," he wrote.

"I accept responsibility for that which I was responsible for and recognise that my actions must be consistent with this. I believe that they have been and to voluntarily accept a reduction in a pension entitlement which has been built up over many years and in other employment in addition to RBS is not warranted."

Responding by letter last night, Lord Myners disputed the banker's version of events and told him his decision not to volunteer a reduction in his pension was "unfortunate and unacceptable".

He urged Sir Fred to accept a reduced pension, writing: "I think such an act would be an appropriate recognition of the failings of RBS under your tenure.

"I hope that on reflection you will now share my clear view that the losses reported today by the bank which you ran until October cannot justify such a huge award."

Earlier, Mr Brown had said: "Failure should not be rewarded. Practices are coming to light which have got to be dealt with."

Meanwhile, the Chancellor admitted ministers had looked at RBS's books in October but only became aware last week that they could have blocked Sir Fred's payment.

Mr Darling insisted the package was not negotiated or approved by the government.

He said ministers were under the impression it was an unavoidable contractual commitment. It was only about a week ago that it was discovered the then RBS board exercised an element of discretion in effectively doubling the size of Sir Fred's pension pot from 8 million to 16 million, he said.

The Chancellor told MPs: "What we did know last autumn was that we were told there was a contractual agreement between the board of the bank and Sir Fred. What we didn't know – and it was only very recently that we became aware – (was] that the decision of the previous board to allow Sir Fred to take early retirement had the effect of increasing his pension entitlement and that that might have been a discretionary choice."

However, the severance and early retirement policy is set out in the 2007 RBS accounts. They state: "The RBS Fund rules allow all members who retire early at the request of their employer to receive a pension based on accrued service with no discount applied for early retirement".

UKFI – the government-backed body that deals with bailed-out banks – is to review all aspects of Sir Fred's pay-off to see if any can be clawed back.

Challenged as to why the government did not find out about Sir Fred's pension at the time it took over RBS, Mr Brown's spokesman said: "We had to act very quickly in October in order to prevent the bank from collapsing. We did not take majority ownership until December, and UKFI have been poring through the books.

"RBS is a big bank with a large balance sheet and there are a lot of assets and liabilities that have to be looked at. Since they became aware of the change of pension entitlement, UKFI have been vigorously pursuing whether there is any scope for clawing some of this back."

The Prime Minister wanted "every legal avenue" to be explored to establish what money may be reclaimed.

Stephen Hester, the new RBS chief executive, said the arrangements for Sir Fred's departure had been "negotiated directly between past directors and the government and him".

George Osborne, the shadow chancellor, said: "Whichever way one looks at it, this obscene pension is unacceptable and the government is on the hook. Either they did know and failed to act, or didn't know and failed to ask the right questions.

"There is now only one person who can correct this huge error of judgment by the Chancellor, and that is Sir Fred Goodwin himself – who should in all decency renounce his pension."

• Click here to read Sir Fred Goodwin's letter

• Click here to read Lord Myners' response