The compensation bill comes after a test case won by the Bank Mellat, which was banned from operating in Britain or Europe because Treasury officials thought it was linked to Iran’s suspected nuclear weapons programme.
The Treasury’s case collapsed earlier this summer after the Supreme Court backed the bank’s claim that the blacklisting was done on flawed evidence.
Later this month, the court is expected to order the Treasury to pay Mellat’s legal costs and to begin discussions over damages.
Lawyers for Mellat have told The Telegraph they intend to claim for £500 million for loss of business between 2009 and 2013.
The case has paved for the way for similar actions from scores of other Iranian firms, including banks and oil companies, which lawyers say could push the total compension bill to the £1 billion mark or beyond.
“The Mellat bank was very profitable and it had to close down its entire operatiion in both Britain and Europe,” Sarosh Zaiwalla, a senior partner at the bank’s law firm, Zaiwalla & Co Solicitors.
“It is sad that this money will have to come from the taxpayer, but the rule of law has to be upheld.”
As well as a potentially huge cost for the taxpayer, the case has raised serious concerns about the way legal challenges in the British and European courts are undermining sanctions against Iran.
Experts said that government officials would now have think extremely carefully before blacklisting Iran-linked companies, potentially reducing the sanctions’ effect.
John Baron, a Tory MP who sits on the Foreign Affairs Select Committee, said: “Let’s hope government officials are on top of this otherwise the hit to the taxpayer could be substantial.
"It is also further evidence that sanctions risk being a blunt instrument, both in execution and effect.”
Bank Mellat, Iran’s largest private bank, first came under sanctions in late 2009 after senior Treasury civil servants said the bank had two Iran clients who were linked directly to the Islamic republic’s nuclear programme.
One was Novin Energy Company, which Treasury officials said looked after the financial interests of the Atomic Energy Organisation of Iran.
The other was Doostan International, an intermediary company linked to Iran’s Aerospace Industries Organisation, whose officials were alleged to be involved with ballistic missile development. The government also said it had further secret intelligence evidence that supported its blacklisting decision.
However, Bank Mellat claimed that it had done everything it could to sever any links with the nuclear programme. When Novin was designated in a UN Security Council Resolution, the bank stopped its relationship with it.
The bank’s officials also investigated Doostan and found nothing unusual or suspicious, and argued that they had therefore acted in good faith.
They also complained that they had not been given a chance to challenge the blacklisting decision beforehand, and that it was unfair that the Treasury was citing secret evidence which they were not allowed to see.
In a hearing earlier this summer, the Supreme Court ruled that the Government had acted “irrationally and disproportionately”. It also examined the secret evidence and ruled that it was not “relevant” to the case.
The bank, which used to do around £250 million worth of business a year in Britain, is claiming both for the loss of earnings and damage to its reputation.
“There was a suggestion that two of the bank’s customers had in the past supported Iran’s nuclear activity, but the bank produced evidence that it had acted on that that and closed the accounts,” said Mr Zaiwalla.
The Government’s sanctions on Bank Mellat prevented the whole of the country’s financial sector from having any business relationship with the bank.
The Treasury also argued that even if Mellat did not have specific relationships with those involved in the Iranian nuclear program, the fact that the Iranian government owned a minority share in it meant that it was potentially vulnerable to being used for that purpose.
The Supreme Court, however, ruled that it was unfair to single out Mellat and not other Iranian banks.
Bank Mellatt also won a case earlier this year in the European courts against a separate blacklisting in the European Union, which imposed its own sanctions on the Treasury’s recommendation.
The Luxembourg-based European General Court, which adjudicates on EU business law, said the EU had failed to provide enough evidence that Bank Mellat was linked to Iran’s disputed nuclear progamme.
The EU has appealed the decision, although lawyers for Mellat say the fact the Britain’s highest court has already found in its favour means the appeal is unlikely to succeed.
“The Bank Mellat case clearly shows that even in the world of sanctions, the rule of law still applies,” said Mr Zaiwalla. “Regardless of international politics, Europe says there must be a reason to curtail the rights of an entity or individual.”
The precise amount of compensation paid to Bank Mellat by the British government will be settled at a hearing later this year, and will be subject to arbitration.
It is understood that while the bank may not get its full £500 million, it may settle for around £350 million.
However, Iranian companies and individuals have nearly 50 similar cases outstanding in the British and European courts.
Mr Zaiwalla added: “Because many of those cases came from British and French government referrals, the European Council may seek to make Britain and France shoulder the bulk of those costs. In some of these other cases the sanctions may well prove to be justified, but the total bill for the British taxpayer, including that for Bank Mellat, could well be £1 billion.”
A Treasury spokesperson said: “We have not received any claims for damages but will robustly contest any detailed claim put forward for damages."