Foreign Secretary William Hague has said the British embassy in Iran will re-open for the first time in three years.
The embassy, based in the capital city of Tehran, was closed after hundreds of protesters stormed the building in 2011. Diplomats working at the Iranian embassy in London were subsequently expelled.
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"In a written statement, Mr Hague said the UK embassy will re-open 'as soon as practical arrangements are made' as a sign of 'increasing confidence' in the state of relations between the two countries," the BBC reported.
The election of a new Iranian president, Hassan Rouhani, and an interim deal over Iran's nuclear programme has since warmed diplomatic relations. In October, both countries appointed a non-resident "charge d’affaires" to work towards reopening the embassies.
Now the two countries have been pushed together by the crisis in Iraq, says the Financial Times. Contact between the West and Iran has gathered pace through their shared interest in confronting militants from the Islamic State of Iraq and Syria (Isis), with Hague reportedly speaking to Iran's foreign minister over the weekend.
Jack Straw, former Labour foreign secretary, told the FT: "The crisis in Iraq underlines the need for us to build up relations with the government of Iran as quickly as possible. They were a reliable ally with respect to Afghanistan and it happens that their interest in promoting a stable Iraq coincides with ours."
Around 400 British nationals or citizens with links to the UK are believed to be fighting in Syria and Hague believes some are "inevitably" fighting in Iraq.
No 10 Downing Street officials have confirmed that Britain has offered "counter-terrorism advice" to Baghdad and would offer assistance if the US decided to take any action in Iraq. However, they have ruled out sending military support to the Iraqi regime.
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