The fitness-for-work test used to determine whether hundreds of thousands of people are eligible to claim sickness benefits substantially disadvantages people with mental health conditions, a court has said, in a landmark ruling hailed as a significant victory by mental health charities.

A three-judge tribunal panel ruled that the Department for Work and Pensions (DWP) had failed to make reasonable adjustments to ensure people with mental health problems were treated fairly by the system. This failure meant such claimants were placed at a substantial disadvantage, the judgment concluded.

Directors of three charities that backed the case welcomed the judgment, and called on the government to stop assessing people's fitness for work under the current system until the issue was resolved.

However, the DWP said it would appeal against the ruling, and stated it did not intend to halt the assessment process.

The ruling was triggered by a judicial review launched by two individuals with mental health problems, who argued that the work capability assessment (WCA) was unfair to them because it required them to understand and be able to explain the nature of their condition to the people conducting the assessment, when they had insufficient awareness of their difficulties to do so.

The discussion focused on whether it was reasonable to expect people with mental health problems to seek additional medical evidence in support of their claims from their GPs, or whether the DWP needed to do more on their behalf to ensure that this sort of evidence was collected and taken into account.

Paul Jenkins, CEO of Rethink Mental Illness, said: "This ruling proves once and for all that this cruel and unfair process is unlawful. The judges have independently confirmed what our members have been saying for years – the system is discriminating against some of the most ill and vulnerable people in our society, the very people it is meant to support.

"The work capability assessment process is deeply unfair for people with a mental illness – it's like asking someone in a wheelchair to walk to the assessment centre."

Atos, the company contracted by the government to conduct the WCA, is reassessing recipients of incapacity benefit (which is being phased out) for eligibility for the new employment and support allowance at a rate of about 11,000 people a week.

Jenkins said the government should "halt the mass reassessment of people receiving incapacity benefit immediately, until the process is fixed".

Mark Lever, chief executive of the National Autistic Society (NAS), also called on the government to stop the assessments.

He said: "Now that the tribunal has ruled that the work capability assessment process disadvantages people with autism, the government must stop putting them through it until a more equitable system is in place.

"Those who devised this process failed to understand the complexities of conditions like autism. By the nature of their condition, people with autism can struggle to understand and articulate how their disability affects them – which is just what this current system requires them to do, by placing the burden on them to collect their own evidence.

"Making people with autism jump through these hoops was only ever setting them up to fail."

Paul Farmer, chief executive of Mind, said: "The judgment is a victory, not only for the two individuals involved in this case, but for thousands of people who have experienced additional distress and anxiety because they have struggled through an assessment process which does not adequately consider the needs of people with mental health problems."

The judgment agreed with the charities' arguments that people with mental health problems struggled with the assessments because, among other things, they could be confused by their symptoms. They might be unable to properly describe the effects of their condition and could have difficulty in understanding the questions asked.

Additionally those people could be unwilling to report their condition due to "shame or fear of discrimination"; because of cognitive difficulties they might fail to understand the need for extra medical evidence; and they could find the process itself "intimidating and stressful".

Since the WCA was introduced in 2008 about 40% of those found fit for work, through the assessment, have appealed against the decision, and about 40% of those appeals have succeeded.

These appeals cost the state about £50m a year, and the tribunals service has had to increase staff levels to try to cope with a mounting backlog of cases.

Natalie Lieven QC, acting for the two anonymous claimants, said it was now a matter of urgency for the DWP to take steps to improve the process for people with mental health problems.

There was no decision on how the DWP should rectify the situation, and there will be further hearings in September to resolve how the process can be improved.

In the meantime, the department was asked by the judge to investigate ways to make the system better for people with mental health problems.

A DWP spokesperson said: "We disagree with today's ruling and intend to appeal. We believe we have made, and continue to make, significant improvements to the WCA for people with mental health conditions. We will carry on working with charities, including Mind and the NAS, to continually improve the WCA for people with mental health problems, and … pilot a new approach to collecting more information from a claimant's GP to refine the WCA."

The claimants' solicitor, Ravi Low-Beer, of the Public Law Project, said: "Today's ruling confirms what disabled people have been saying for years – although ignored by ministers – that the work capability assessment process is not fit for purpose.

"It is in everyone's interests that the DWP changes course. If they continue to rush people with mental health disabilities through the process as it stands, more ill people will be wrongly refused support, more ill people will suffer a deterioration in their mental health as they try to navigate the appeal system, and more public money will be wasted."