A settlement between Victorian Opposition Leader John Pesutto and dumped MP Moira Deeming broke down over her demand to return to the parliamentary party with no strings attached.
The first-term MP was expelled from the parliamentary Liberal Party after she took part in a rally in March that was gatecrashed by a group of masked men who performed Nazi salutes.
Mrs Deeming issued several defamation concerns notices to Mr Pesutto, alleging he publicly accused her of being a Nazi sympathiser and used the claim to bully and threaten her with expulsion.
Mr Pesutto denies he accused the now-independent MP of being a Nazi or having Nazi sympathies.
The pair had been locked in mediation, with Mrs Deeming seeking an exoneration from Mr Pesutto, financial restoration and her return to the Liberal Party room.
Mrs Deeming declared mediation had failed on Monday, saying her lawyers would lodge defamation proceedings.
Mr Pesutto, who has vowed to defend himself, confirmed he and Mrs Deeming had reached a "tentative settlement" on several issues but her path back into the parliamentary party was the sticking point.
"There was one outstanding issue and that was returning to the party room without conditions and without the party room being involved in any decision-making on that," he told reporters on Wednesday.
"I was never going to accept that."
No court can direct a parliamentary party to readmit a member, the former industrial lawyer said.
Mrs Deeming said her demand to undo injustices perpetrated by the Victorian Liberal leadership team had never changed, including her restoration to the party room.
"I'll pursue justice on every front until I get it," she wrote on social media.
Her lawyers are expected to formally file defamation proceedings against Mr Pesutto in the Federal Court this week.
Mrs Deeming and Mr Pesutto have committed not to prop up their legal cases with party funds, with Mr Pesutto saying he will pay his legal costs if he has to.
