Rachel Reeves's Treasury is seeking to retain millions of pounds in fines levied on polluting water companies earmarked for sewage clean-ups, the Guardian has learned.

The £11m water recovery fund was announced ahead of last year's general election, with projects bidding for the money to improve waterways and repair damage caused by sewage pollution in areas where fines have been issued.

However, the Treasury is discussing retaining the funds for unrelated purposes at a time when public finances are under severe pressure and interest costs on debt are rising.

The move will be deeply disappointing for smaller projects that had bid for money to clean up waterways littered with sewage and expected to receive the cash last July only to be delayed by the election.

While £11m is a small sum, environmental charities believe the fund is expected to grow significantly as regulators start to take tougher action against polluting water companies. Last summer it was announced that Thames, Yorkshire and Northumberland Water would be fined a record £168m for illegally discharging sewage into rivers and seas.

The issue has political significance amid public anger over sewage contamination and both Labor and the Lib Dems challenging the previous government's poor record at holding water companies to account at the last election.

Lib Dem environment spokesman Tim Farron said: “We must urgently find out where this money is going.

“It has taken us too long to fine the worst perpetrators of this pollution – the water companies who pollute our beautiful oceans, rivers and waterways with dirty sewage.

“Now we understand that this administration is trying to divert these hard-earned fines directly to the Treasury. Under the Water Restoration Fund, this money is earmarked for good reason — those who pollute our water should pay for the cleanup.

“The government must now publish plans for the Water Recovery Fund to reassure the public that polluter fines will be used to restore Britain’s clean water sources, rather than plug funding gaps in the Treasury.”

A Whitehall source said the issue was being debated live within the Treasury, which is working to find ways to retain the cash handed over by regulators.

Environmental charities have suspected for months that the Water Restoration Fund would not survive without news on whether the bid would be approved.

Their concerns were further fueled by a parliamentary reply this month which suggested the issue had not yet been resolved, saying: "Defra is continuing to work with the Treasury to continue to reinvest in water company fines and water environment improvement penalties."

A group of charities wrote to the Department for Environment, Food and Rural Affairs (Defra) last week seeking assurances that the fund would not be withdrawn.

Ali Morse, water policy manager at the Wildlife Trust, said: "We have long called for these fines, which previously went directly to government, to be used to help degraded waterways initially polluted by offenders. Existing funds must now be allocated to drive action on priority issues such as restoring protected areas damaged by nutrient pollution and enhancing chalk streams. Rather than considering ending the Water Restoration Fund, the UK Government must enact legislation to ensure the fund helps watercourses recover.”

James Wallace, chief executive of Rivers Action, said: "The new government was elected on a promise to tackle the dire state of our rivers and the profiteering water industry. Any slowdown in investment in restoration, particularly a fund made up of polluter fines, will Sends exactly the wrong message.

“The obsession with economic growth at the expense of the environment is insane and is a clear sign that Labor is gambling with our future to appease the greedy demands of international financial markets. History will judge harshly the politics of those whose short-term policies destroy our climate and nature Leaders. Without water, soil and wildlife, there is no food, jobs and economy.”

Asked whether the Treasury was considering retaining pollution fines funding, a government spokesman said: "For too long, water companies have discharged record levels of sewage into our rivers, lakes and oceans.

“This Government has wasted no time in passing the Water Bill to place water companies under special measures, which includes new powers to ban bonus payments to owners of polluting water plants and bring criminal charges against offenders.

“We are also conducting a comprehensive review of the water sector to develop further legislation that will change the way our water systems work and clean up our waterways permanently.”