With international sanctions squeezing Iran, the Islamic Republic is seeking to expand its banking foothold in the Caucasus nation of Armenia to make up for difficulties in countries it used to rely on to do business, according to diplomats and documents.

Iran's growing interest in its neighbor Armenia, a mountainous, landlocked country of about 3.3 million people, comes at a time of rising international isolation for Tehran and increasing scrutiny by Western governments and intelligence agencies of Iranian banking ties worldwide as they attempt to stifle the country's nuclear program.

The most recent example is British bank Standard Chartered , which has been in the spotlight due to U.S. charges that it hid from U.S. regulators and shareholders some $250 billion of transactions tied to Iran.

An expanded local-currency foothold in a neighbor like Armenia, a former Soviet republic which has close trade ties to Iran and is working hard to forge closer links to the European Union, could make it easier for Tehran to obfuscate payments to and from foreign clients and deceive Western intelligence agencies trying to prevent it from expanding its nuclear and missile programs.

Armenian officials denied illicit banking links to Iran.

While the four rounds of U.N. sanctions remain limited, with only two Iran banks blacklisted by the Security Council, the United States and European Union have implemented much tougher restrictions, sanctioning dozens of banks and other firms and making it increasingly difficult for Tehran to conduct business in U.S. dollars and euros.

A U.N. panel of experts that monitors compliance with the sanctions against Tehran recently submitted a report to the U.N. Security Council's Iran sanctions committee that concluded Iran was constantly searching for ways to skirt restrictions on its banking sector.

"One state bordering Iran informed the Panel of requests from Iran to open new financial institutions," the report said. "The requests were not pursued apparently because of that country's burdensome legislation."

Several U.N. diplomats familiar with the panel's work confirmed that the unnamed state was Armenia, where Iran already has banking ties.

Despite Armenia's denials of illegal banking arrangements, Iran has not given up trying to expand in the country, the diplomats said, and U.S. officials have repeatedly cautioned Armenian colleagues to tighten financial controls.

Reports and denials

Iran's trade with Armenia, including an oil pipeline that Armenian news reports say should be finished in 2014, requires some form of cross-border banking. Iranian President Mahmoud Ahmadinejad has said that Iran's annual trade with Armenia is around $1 billion, according to Iranian news reports.

Engaging in transactions with Iranian banks is not a violation of international sanctions as long as it is not linked to Iran's nuclear or missile programs or companies or individuals under U.S., EU or U.N. sanctions.

Iran insists its nuclear program is peaceful and refuses to shut it down. It says the sanctions are illegal.

But Washington has made clear to governments around the world that trading with Iranian firms that are sanctioned by the United States could lead to a U.S. blacklisting.

A Western intelligence report shown to Reuters, and dated May 2012, said that Iran was searching for "convenient" locations to develop alternative banking relationships away from spy agencies and other international monitoring bodies. It said an expanded presence in Armenia was one of Iran's goals.

"The Central Bank of Iran (CBI) has been operating for years to establish and develop concealed infrastructures to enable Iran to continue trading with foreign countries, particularly in countries convenient for Iranian activity, such as the UAE (United Arab Emirates) and Turkey," the report said.

"The increasing pressure on the banks in some of these countries has forced CBI economists to seek financial alternatives in countries that do not work according to the dictates of the West," it said, naming Armenia as a target. – Reuters