UPDATE 1-Taiwan's Chinatrust may drop bid for AIG's Nan Shan

* Chinatrust, Bain Capital may drop joint bid for Nan Shan

* Taiwan said AIG must settle dispute with employees first (Adds comments from Taiwan regulator, details)

By Faith Hung and Rachel Lee

TAIPEI, Aug 19 (Reuters) - Chinatrust (2891.TW), Taiwan's top credit card issuer, will likely pull out of a bid for AIG's (AIG.N) Taiwan insurance unit as its partner, Bain Capital, wants to pull of the race, a source close to the company said on Wednesday.

Meanwhile, the Taiwan regulator said that the Nan Shan Life unit must settle a pension dispute with its employees before a new owner can be allowed in, potentially disrupting the deal worth an estimated $2 billion for the Taiwan unit.

"Bain Capital has expressed their views that they would not pursue this bid further," said the source, who asked not be identified. "That would affect Chinatrust's willingness to go for the bid," he said, declining to elaborate further.

The move means AIG, once of the world's biggest insurers until the U.S. government had to bail it out last year, would not be able to sell the unit at a price it desired, some sources close to the situation said.

Chinatrust and private equity firm Bain Capital are among the four buyer groups that made it to the final bidding round for the AIG unit, Nan Shan Life, set in late August.

A too-rich asking price could once again sink AIG's plan to sell Nan Shan after an attempt at a sale met a similar fate earlier this year, sources in Taipei and Hong Kong have said. [ID:nTP344355]

Carlyle Group [CYL.UL] is pairing with Fubon Financial (2881.TW) to bid for the unit, Primus Financial is teaming up with China Strategic (0235.HK), while Cathay Financial (2882.TW), Taiwan's biggest financial holding firm, is bidding on its own.

OTHER ISSUES

Insurance agents at the Taiwan unit are in talks with the company to ask for their T$14 billion ($420 million) pension fund be returned to them.

"Our take on this matter is that AIG has to deal with the issue with its employees," said Huang Tien-mu, director general of the insurance bureau at Taiwan's Financial Supervisory Commission.

"We can only begin talking about other issues when Nan Shan has dealt with the pension problem in a manner that is acceptable to all parties involved."

Nan Shan's union has been placing front-page advertisements in local newspapers, calling on AIG to settle its pension obligations before finalising any sale.

"The company's now agreed to allow us to jointly manage the fund, but we want the money to be returned to us. It's our money after all," said Grace Feng, a spokeswoman for the agents' union.

Feng said some 38,000 insurance agents at Nan Shan supported the move to ask for their money to be returned.

Nan Shan Life said in a statement released late on Thursday it had agreed to allow the union and the firm to jointly manage the pension fund, but it would need approval from AIG to return the money to its agents.

On its part, AIG said it has hired consultants to look into the issue. (Writing by Lee Chyen Yee; Editing by Rupert Winchester)