A Liberal Democrat councillor has been suspended after nominating a BNP candidate for May's local elections.
The local party says Mr Jones made "an error of judgement"
The party's leadership has withdrawn all support for Darlington councillor Stephen Jones, who has quit as leader of the three-strong Lib Dem group.
Daniel Brown, the candidate whose nomination he signed, is one of his rivals in the North Road ward.
The local party said Mr Jones made a mistake but the Tories have called on Sir Menzies Campbell to sack him.
Edward Davey, chief of staff to leader Sir Menzies, said: "The Liberal Democrat Party in no way endorses and indeed repudiates the policy platform of the British National Party, whose views we find repugnant in every aspect.
"At all levels of the party our aim is to defeat the invidious philosophy of the BNP and to campaign actively against them. We will investigate the circumstances of this case immediately and thoroughly."
Mr Jones' local party said the councillor had assured them he had no sympathies with the far-right BNP.
He quit as the leader of the group following an emergency meeting last night to discuss the issue.
In a statement, the local party said: "Councillor Jones made an error of judgment in signing the nomination papers of an opposition candidate.
"In view of his unfortunate mistake, Councillor Jones has resigned as Leader of the Liberal Democrat Group but will continue to seek re-election as a Liberal Democrat based on his record of service to North Road Ward."
The Tories said there was no need for any investigation and demanded Sir Menzies sack Mr Jones immediately.
Party chairman Francis Maude said there could be no excuse for a mainstream political party promoting extremism and racism.
He said: "The evidence is there for all to see; Menzies Campbell must get off the fence and sack Steve Jones.
"He must send a clear message to the rest of his Party that racism will not be tolerated by expelling this councillor from the Liberal Democrats."