By Rachna Uppal and Martina Fuchs
DUBAI (Reuters) - The U.S. government has forced Dubai-based Noor Islamic Bank to stop channeling billions of dollars from Iranian oil sales through its accounts, part of Western measures to curb Tehran's disputed nuclear program.
The move, which took place in December, is embarrassing for traditional U.S. ally the United Arab Emirates because the bank is partly state-owned and its chairman is the son of Dubai's ruler, Sheikh Mohammed.
A spokesman for Noor Islamic bank said it complied with all international regulations on Iran.
"When we became aware, in December 2011, that unilateral U.S. sanctions were to be applied against a number of Iranian banks we took pre-emptive action to end our business relationships with Iranian banks licensed in the UAE," he said.
The Wall Street Journal newspaper reported that Noor had agreed in mid-December to close what people briefed on the operation characterized as Iran's single largest channel for repatriating foreign currency oil receipts.
The paper said the bank had facilitated as much as 60 percent of Iran's foreign oil sales - estimated at $80 billion - by late last year.
A banking source familiar with the matter said the bank had been winding down its positions since December and suggested that other local banks had been dealing with Iran, although Noor Islamic appeared to have carried the most volume.
"The bank (Noor) made so much money out of this that they just milked it," the source said, suggesting it had handled tens of billions of dollars.
"It was just too good to be true," the source said.
It was not clear if other banks were under investigation, but government officials confirmed that Noor was the first to be targeted in the country. Turkey's Halkbank is also known to handle payments for Iran's oil sales, but Noor Islamic appears to be the first in the world to yield to U.S. pressure.
Iran sanctions graphic: http://link.reuters.com/qeh85s
The United Nations and Western countries have imposed a series of economic sanctions on Iran during the past five years over what they say are efforts by Tehran to develop nuclear weapons. Iran denies the charges.
In June, the U.S. Treasury adopted a law allowing the president to punish foreign banks that carry out financial transactions "for the purchase of petroleum or petroleum products from Iran" provided several conditions are met.
An official at the UAE Ministry for Economic Affairs said only Noor Islamic Bank had been targeted so far.
"Of course, as the UAE government, we will comply with the U.N. resolutions," Khalid al-Ghaith, the assistant foreign minister for economic affairs, told Reuters at a conference in Abu Dhabi.
He said officials were in contact with the Americans to try to reduce any possible harm to the UAE banking system or its companies.
The commercial hub of Dubai - 150 km (100 miles) across the Gulf - has benefited from the tougher sanctions, pushing more business its way. Re-export trade between Iran and the UAE boomed, but started to fall flat when financial transactions were targeted.
Dubai has long been a major trading partner with Iran. It has a sizeable Iranian expatriate population and hosts a fleet of traditional wooden dhows (boats) which transport goods across Gulf waters to Iranian ports every day.
Banking sources familiar with government discussions told Reuters earlier this month that the UAE central bank had stepped up the monitoring of banks' dealings with Iran in the past three months.
Launched in 2008, the bank said its aim was to be a global player but it so far serves a mostly local market catering to individuals and businesses.
The bank returned to profitability in the first half of 2011. Any impact from the U.S. move was not clear.
In August, the bank's Chief Executive Hussain Al Qemzi told Reuters in an interview that the bank expected to break even in 2012.
(Additional reporting by Martina Fuchs in Abu Dhabi and Dinesh Nair in Dubai; Writing by Sitaraman Shankar and Reed Stevenson; Editing by Elizabeth Piper)