* Sale as new rules force banks to raise capital ratios
* Insurance asset sales possible at peers ANZ, CBA - banker
* NAB expected to announce sale with Weds earnings - source (Recasts, adds banker comment and industry context)
By Taiga Uranaka and Swati Pandey
TOKYO/SYDNEY, Oct 27 (Reuters) - National Australia Bank Ltd NAB.AX has agreed to sell 80 percent of its life insurance arm to Japan's Nippon Life Insurance Co NPNLI.UL for about $1.7 billion, a person familiar with the matter told Reuters on Tuesday.
Australia's biggest lender by assets is expected to announce the sale on Wednesday when it reports earnings, said the person, speaking on condition of anonymity. NAB put its shares on a trading halt, saying it was set to announce a "material transaction", while a Nippon Life spokesman declined to comment.
The deal for Australia's second-biggest insurer by market share comes as NAB, like its industry peers, looks to raise funds to boost its capital ratio under new, stricter rules imposed by regulators. Bank like Australia and New Zealand Banking Group Ltd ANZ.AX and Commonwealth Bank of Australia CBA.AX may follow suit, sector watchers say.
"There is a definite possibility of another bank following suit, possibly ANZ," said a Sydney-based investment banker who advises financial institutions on M&A transactions.
ANZ and CBA didn't immediately respond to requests for comment.
Australia is an attractive market for life insurers, with average incomes higher than in emerging markets and a population of 23 million that growing steadily.
Cash-rich Japanese companies such as Nippon Life - already in talks on product ties with NAB - are seen as ready buyers, seeking new sources of growth outside a shrinking domestic market. Firms like Sumitomo Life Insurance Co and Meiji Yasuda Life Insurance Co have made a string of multi-billion dollar acquisitions this year.
Australian regulators tightened rules earlier this year, ordering highly profitable banks to hold stronger capital reserves to make them among the sturdiest in the world. NAB is expected to post its best profit ever on Wednesday, with cash earnings of A$6.3 billion ($4.55 billion) for the year ended Sept. 30.
The rule change has led to aggressive capital raising, with the "Big Four" lenders - NAB, ANZ, CBA and Westpac Banking Corp WBC.AX harvesting more than A$20 billion in share sales since the rule change and analysts predicting a similar amount needs to be set aside over the next two to three years.
Earlier this month, Melbourne-based NAB said it was exploring a long-term insurance product partnership with Nippon Life, Japan's largest private-sector life insurer with $500 billion in assets.
Analysts estimate NAB's life insurance arm has a return on equity of about 8 percent, compared with an overall bank ROE of 14.7 percent, and a sale would help NAB improve returns in its wealth unit.
It acquired the life insurance business as part of its wealth management division MLC, which it bought from Lend Lease LLC.AX in 2000 for about $4 billion. The life insurance operations account for about 20 percent of MLC.
($1 = 120.8800 yen) ($1 = 1.3831 Australian dollars)