mattdog,
I was in a similar situation a few years back, when I was given a resttlement allowance I shouldnt have had on transfer between services. Despite questioning whether I was entitled to the payment, I was assured by the pay office that it was 100% legit. I then spent said money, and 3 years later, out of the blue I had the treasury solicitor demanding that I list my valuables and threatening to send the bailiffs round (just what I needed 10 days before going to NI on a 3 month tour).
I fought this case over about 12 monrths on the basis of "estoppel". From what I remember, the essential arguments are: If you have accepted the money in good faith; if you have taken all reasonable measures to ensure that you were entitled to it; and you have in the meantime spent the money on items you would not otherwise have bought; the mob is "estopped" from taking the money back.
The problem you will encounter is: I managed during my legal battle to get hold of a directive which was not designed for public consumption, which instructs public bodies and pay offices in cases like this to get the money back first (as possession is a large part of the law), and dont worry too much about whether they are entitled to or not. They will do what they can to intimidate and threaten you to give it back.
If you think you have a watertight moral & legal case, stick with it. My complaint went up through the chain of command, with the bean counters throwing it back at me with spurious legal challenges and accusations of lying etc, which hacked me off massively, until it finally got to the navy board, who backed me up and told the b******s to wind their necks in. Just as well - next appeal would have been to Her Maj, who I doubt as though would have been to interested .
It will take a lot of detective work - I had to get hold of my telephone records from 3 years before at a different address to prove on the itemised bill that I had telephoned the pensions office with a query on the day I had received the payment. They will be ruthless in pursuing you for the money, but eventually your case will come before someone who will look at it objectively.
Good Luck!