May.27, 2010, 11:03:16 AM GMT

RIGA, May 26 (Reuters) - Latvia's banking sector supervisor said on Wednesday it had cancelled the licence of the country's smallest bank, VEF Banka, which is subject to U.S. restrictions due to concerns over money laundering.

The FKTK supervisor said the licence had been withdrawn because VEF's shareholders had not met sector rules.

"The cancellation of the licence is not connected with the bank's solvency," said FKTK head of office Anna Dravniece.

She added in a statement that the cancellation of the licence was due to various reasons concerning the shareholders, including the fact that they had not got FKTK permission to buy a significant participation in the bank.

FKTK also said the shareholders were not ensuring that rules for credit institutions were being followed.

In 2005, the U.S. Treasury's Finance Crimes Enforcement Network (FinCEN) said VEF Banka, and another Latvian bank, Multi Banka, were of "primary money laundering concern".

FinCEN in 2006 slapped a ban on U.S. financial institutions opening correspondent accounts for VEF.

In VEF Banka's 2009 audited report, posted on its website, the bank said the U.S. problems had continued to impact its operations and that the FinCEN decision had remained in force despite the fact it had changed its largest shareholder.

It said in the report that its 2010 goal had been to persuade the U.S. authorities to lift their restrictions.

Data on the website of the Latvian banking association showed VEF had assets of 4.9 million Latvian lats ($8.5 million), out of a total for the whole sector of 21 billion lats.

The country's bank sector has long seen itself as a financial bridge between clients in Russia and other former Soviet states and the West.

But the U.S. State Department has said that Latvia still faced significant money laundering threats tied to corruption, organised crime and non-residential account holders.