The proposals aim to modernise and clarify the law on mental incapacity in order to improve protection for adults who suffer from mental illnesses like dementia and their carers.

They include extending carers' power of attorney to cover not just a mentally incapacitated person's financial affairs, but also decisions regarding their health and welfare.

The proposals follow a 1997 consultation paper, Who Decides?, and a 1995 report by the Law Commission.

The plans outlined by Lord Irvine on Wednesday include a new test of capacity and a new statutory definition of incapacity.

These assume a person is able to make their own decisions unless they are proved incapable. The aim is to ensure people with learning difficulties and mental illness are able to remain as independent as possible.

The proposals also set out how the best interests of the mentally incapacitated should be decided. They say people with a mental incapacity and their carers should be as involved as possible in any decisions about their lives.

The prospect that a person may recover from a mental incapacity should also be taken into account.

Carers' authority

Carers will also be given a "general authority to act reasonably" for the health and welfare of a mentally incapacitated person, including such areas as paying bills, giving medication and helping with dressing and feeding.

Under the Making Decisions proposals, carers will not be allowed access to a person's savings or to make decisions over issue such as marriage, adoption, divorce and sexual relations.

There will be legislation or a code of practice on who is liable for paying the bills of someone who arranges goods or services for a mentally incapacitated person.

Lord Irvine said: "The present law offers little protection to someone who is unable to make decisions or to the carer whose actions would have little or no legal basis.

"The government has set out to provide an understandable framework in which the interests of the mentally incapacitated are protected and in which carers can act with confidence."

The proposals also include a continuing power of attorney for carers. This means people who fear they will become mentally incapacitated can nominate a person to take over responsibility for decisions regarging their health and welfare.

Currently there is only a power of attorney concerning financial matters.

Living wills

There will also be a Court of Protection which will deal with all areas of decision-making affecting mentally incapacitated people.

Areas which were consulted on but not taken forward by the government include living wills.

These are advance statements about what kind of medical treatment a person wishes to receive or not to receive if they should become mentally incapacitated.

The Lord Chancellor's office says opinion was very split on the issue. It will keep living wills under review, but proposes that the present situation whereby cases are decided on their individual mertis be continued.

Learning disability charity Mencap said it was pleased with the proposals which were "a serious recognition" that change was needed.

But Richard Kramer, head of campaigns, called on the government to make passing legislation "an urgent priority" and to incorporate it in the Queen's Speech.

The Alzheimer's Society also welcomed the plans.