A sophisticated fuel oil smuggling network that some experts believe generates at least $1 billion a year for Iran and its proxies has flourished in Iraq since Prime Minister Mohammed Shia al-Sudani took office in 2022, five sources with knowledge of the matter told Reuters.

The operation exploits a government policy under which Iraq allocates fuel oil to asphalt plants at heavily subsidised prices and involves a network of companies, groups and individuals in Iraq, Iran and Gulf states, according to the five people and three Western intelligence reports, two from August this year and one which was undated.

Under the scheme, anywhere from 500,000 to 750,000 metric tons of heavy fuel oil (HFO), including high sulphur fuel oil (HSFO) - equivalent to 3.4 million to 5 million barrels of oil - is diverted from the plants each month and exported, mostly to Asia, two of the sources said.

The extent of the fuel oil smuggling since Sudani came to power and the involvement of multiple entities within Iraq in the illicit trade have not previously been reported.

Iranian and Iraqi officials did not respond to detailed requests for comment about the findings in the Reuters story.

Iran views its neighbour and ally Iraq as an economic lung and wields considerable military, political and economic influence there through the powerful Shi'ite militias and political parties it backs. It also sources hard currency from Iraq through exports and avoids U.S. sanctions via its banking system, Iraqi and U.S. officials say.

While Baghdad has been delicately balancing its role as an ally of both Washington and Tehran for years, with President-elect Donald Trump expected to take a hard line on Iran's attempts to skirt U.S. sanctions, its activities in neighbouring Iraq are expected to come under increasing scrutiny.

Of the two main routes the fuel oil takes out of Iraq, one involves blending it with similar product from Iran and passing it off as purely Iraqi, helping Tehran evade tough U.S. sanctions on energy exports, said the five sources who declined to be named due to the sensitivity of the matter. (Reuters)

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