With Theresa May set to trigger the start of the Article 50 withdrawal process within days, the Commons foreign affairs committee said there was a real possibility the talks could end with no deal.
But despite the potentially grave consequences, the committee said it had seen no evidence of serious contingency planning.
It said ministers should order all Whitehall departments to draw up a “no deal plan”, warning that failure to prepare for such an outcome would be a “serious dereliction of duty”.
The Prime Minister has said she would rather walk away without a settlement than agree to a “bad deal”.
But given the impact on both sides, it said that it should be a “key national and EU interest” that such a situation was avoided.
“It is clear from our evidence that a complete breakdown in negotiations represents a very destructive outcome leading to mutually assured damage for the EU and the UK,” it said. “Both sides would suffer economic losses and harm to their international reputations.”
While the consequences of such failure were “largely predictable”, the committee said there was no sign that ministers were giving it the consideration it deserved. “The possibility of ‘no deal’ is real enough to justify planning for it. This is all the more urgent if the government is serious in its assertion that it will walk away from a ‘bad’ deal,” it said.
“Last year we concluded that the previous government’s decision not to instruct key departments to plan for a Leave vote in the EU referendum amounted to gross negligence.
“Making an equivalent mistake would constitute a serious dereliction of duty by the present administration.”
A Department for Exiting the European Union spokesman said: “A responsible government should prepare for all potential outcomes.”