A Maryland assistant attorney general says a lawyer for State Farm Mutual Auto Insurance Co. may have privately helped the state agency that regulates the insurance industry draft an order giving a $10 million rate increase to State Farm in 1981.

Attorneys for two protesting State Farm policyholders submitted papers to the Maryland Court of Special Appeals yesterday, including copies of a letter by Assistant Attorney General Francis X. Pugh, disclosing the allegations.

Pugh plays two roles: He supervises legal work for the Maryland Insurance Division, which approved the increase, but also must represent the interests of the public at large.

Lawyers for the policyholders asked the appellate court, which is considering an appeal of the increase, to refer the matter back to the Baltimore city court, which originally heard the appeal.

"If true, these allegations would reflect a severe breakdown of proper administrative practice and would constitute a violation of fair procedure and fundamental due process . . . ," said attorneys Ron M. Landsman and David R. Straus in papers filed with the appellate court.

The policyholders "would be entitled to a new decision on the rate increase and a new decision-maker free from the taint of improper collusion with one party to this case," Landsman and Straus said.

Maryland State Insurance Division officials told a reporter yesterday their own internal investigation has revealed no evidence of collusion, and attorneys at State Farm's corporate headquarters in Bloomington, Ill., said they are unaware of any unauthorized participation by a State Farm employe in drafting the rate increase order.

The insurance division has been criticized periodically in the past by the attorney general's office for alleged mismanagement and sloppy procedures. Division officials say they are underfunded by the state legislature and unable to supervise the insurance industry as closely as they would like.

State regulations, buttressed by a number of court rulings, prohibit parties in insurance rate increase requests from dealing unilaterally or privately with the insurance division and its employes.

The insurance division approved a $10 million increase for State Farm's 450,000 auto policyholders in Maryland -- about 23 percent of the state's auto insurance market -- in October 1981.

Landsman and Straus appealed the increase as excessive on behalf of State Farm policyholders Daniel and Judy Katz of Chevy Chase. When the Baltimore court upheld the increase, Landsman and Straus went to the Court of Special Appeals.

Though the appeal is still pending, the 1981 increase has gone into effect, as has a second, comparable increase approved two weeks ago by the insurance division.

Landsman and Straus learned of the allegation of possible collusion when Pugh sent them a letter, dated July 26, saying, "We have been told that . . . counsel for State Farm may have edited or otherwise participated in drafting the final order approving the 1981 rate increase ."

Deputy Insurance Commissioner Edward J. Muhl said in a telephone interview yesterday that he personally investigated the allegations and "found nothing to suggest that ex-parte unilateral conversations took place."

He said he determined that an insurance division employe involved in drafting the rate increase order had in fact met with a State Farm lawyer, but the lawyer was State Farm's legislative lobbyist and not the attorney working on the rate increase request. Further, Muhl said, "their conversation had nothing to do with the language of the order."

Both Muhl and State Farm said they have offered to undergo a complete rehearing of the rate increase request to clear the air, but Landsman and Straus said in papers filed yesterday they want to limit the inquiry.