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* Money can be used only for non-sanctioned bilateral trade
* Provision may not force Iran to slow exports further
* Top buyer countries running trade deficits with Iran
By Osamu Tsukimori and Nidhi Verma
TOKYO/NEW DELHI, Dec 19 (Reuters) - A little-noticed provision in U.S. sanctions against Iran beginning in February is likely to trap payments abroad for its oil exports running into billions of dollars, sapping Tehran of revenue needed to fund the government.
A provision of the law U.S. President Barack Obama signed last summer, which goes into effect on Feb. 6, states that funds being used to pay for oil must remain in a bank account in the purchasing country and can be used only for non-sanctioned, bilateral trade between that country and Iran.
Any bank that repatriates the money or transfers it to a third country faces a sanction risk. This could halt most of the flow of petrodollars to Iran, given that the value of its oil exports is far higher than what it imports from its biggest customers - China, South Korea, India and Japan.
Sanctions on financial transactions with Iran have already made it difficult for buyers to pay for oil from the OPEC producer.
South Korea is stuck with close to $5 billion as Iran is unable to pull the money out, a source with direct knowledge of the matter said. Iranian oil dues are also piling up in China, sources said, although it is unclear how much.
India has an elaborate mechanism involving Turkey's central bank, through which it can transfer only half the money it owes Tehran. The new provision will add Japan, which has so far been able to settle its dues in yen, to the list of buyers saddled with funds owed to Iran.
The latest provision may not force Iran to slow its exports. Existing sanctions have already cut its shipments by more than 50 percent, and the Islamic Republic may want to keep the trade flowing and figure out a payment mechanism later. Nor would Tehran want to turn its entire tanker fleet into floating storage for the want of buyers.
"It will probably have no direct impact on the buyers," an industry source said. "Output has fallen after the sanctions, so they (Iran) would probably like to sell no matter what. Even if they can no longer transfer funds freely, they would probably keep selling for the time being."
Sanctions by the United States and Europe, which bars insurance companies from providing cover for tankers carrying Iranian oil, are already costing Tehran up to $5 billion per month.
Trapping money outside the country amplifies the impact of the sanctions, a U.S. government source familiar with the move said.
It will also force Iran to buy products such as food, medicines, medical devices and electronic goods from the buyers of its oil, supporting the economies of those nations.
The United States doesn't expect objections from any of Iran's crude buyers, because these countries run a trade deficit with the Islamic Republic.
India, Iran's second-largest crude customer, plans to seek an exception from the United States to the new provision. It doesn't want another rule to govern its trade with Tehran after recently securing an exception to existing U.S. sanctions earlier this month.
"It does not make any sense to get an exception in December and then be targeted by another law in February that's also by the United States," a government source said.
The February provision may halt the payment mechanism India has put in place through Turkey's Halkbank, the source said, declining to be identified.
About 100 billion rupees ($1.8 billion) has already piled up in Iran's account with India's state-run UCO Bank, through which 45 percent of the payment is settled in rupees.