Finland and Estonia will have to return to the drawing board with a joint gas terminal project after the European Commission said a proposed two-terminal model would not be eligible for subsidies, the Finnish government said.
Estonia and Finland proposed in February to build two new liquefied natural gas (LNG) terminals on either side of the Gulf of Finland and a pipeline connecting the two countries.
They had agreed to act jointly after competing for more than a year over a project to build an LNG terminal.
"The European Commission did not approve the model proposed to them," Esa Harmala, head of the energy department at Finland's economy ministry said on Wednesday.
Asked whether this meant that the two-terminal model was dead, he said that that was not necessarily the case.
The negotiations will continue over the next few months, the ministry said in a statement.
A single LNG terminal would cost around 500 million euros ($680 million), according to analysts, and would provide an alternative to gas supplies from Russia. A pipeline that would allow Finland and Estonia to share imports would cost some 100 million euros.
The European Union could fund up to 40 percent of a regional terminal provided it serves the interests of more than one country, and there are several Baltic states vying for funds.
Finland and the three Baltic states of Estonia, Latvia and Lithuania consume about 10 billion cubic metres of gas per year, all currently supplied by Russia's Gazprom.
The crisis in Ukraine, which has chilled relations between Russia and Europe, has prompted EU governments to look at ways to reduce their reliance on energy imports from Russia.
The Finnish/Estonia plan, however, was already in the works before the crisis.
($1 = 0.7383 euros)
(Reporting by Sakari Suoninen; Editing by Susan Fenton)