The work at a 40 megawatt reactor at Arak, southwest of Tehran, began in September, just after the UN atomic agency had asked Iran to refrain from building the reactor as a "confidence-building measure," a diplomat, who asked not to be named told AFP.

International Atomic Energy Agency (IAEA) deputy director Pierre Goldschmidt said Tuesday that Iran was pressing ahead with work on the Arak reactor but he gave no details on how far the work had progressed.

Goldschmidt said IAEA inspectors had not visited the site since the agency's board of governors adopted the resolution on September 18 calling on Iran "voluntarily to reconsider its decision to start construction of a research reactor moderated by heavy water."

Diplomats said the source for their information was satellite photographs.

"The Iranians have clearly begun working on the foundations," a diplomat said.

Iran has said it wants to use the heavy-water reactor, which takes natural uranium oxide as fuel, to make medical isotopes.

But the IAEA is concerned about the proliferation risk as the reactor could produce 8-10 kilograms of plutonium per year, enough to make at least one nuclear bomb.

The construction of the reactor could be completed by 2009.

Iran has rejected an offer from the European Union to help it get a light-water research reactor in exchange for giving up its heavy-water project.

Foreign ministry spokesman Hamid Reza Asefi said on February 13: "We welcome such proposals but we will not under any circumstances replace our heavy-water research reactor."

EU negotiators Britain, France and Germany are trying to convince Iran to dismantle an enrichment programme which the United States says is part of a covert atomic weapons development, in return for economic and political rewards.

Diplomats said EU negotiators have offered to send a mission to help Tehran obtain a light-water research reactor in what would be the first concrete move towards rewarding it for abandoning uranium enrichment.

But Tehran's stance on the Arak reactor is likely to complicate the European task amid an escalating war of words between Iran and the United States over the clerical regime's nuclear activities.

The Europeans say they cannot understand why Iran would want a plutonium-producing heavy water reactor when its whole enrichment programme is based on uranium.

Iran insists its nuclear programme is purely for civilian energy needs.

Both the United States and the EU warned Wednesday at an IAEA meeting in Vienna that Iran was failing to report fully on its nuclear activities.

US ambassador Jackie Sanders told the IAEA's 35-nation board of governors that Iran had continued to deny IAEA inspectors "the transparency and cooperation they need to perform their duties" and that Tehran was "cynically" manipulating "the nuclear nonproliferation regime in the pursuit of nuclear weapons."

Sanders said "there remain an alarming number of unresolved questions about Iran's nuclear program."

Among them were why Iran was building the heavy-water reactor.

Enrichment uses centrifuges to refine out what can be uranium reactor fuel but also the explosive core of atom bombs.

Atom bombs can be made from either plutonium or uranium.

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