* Revenue before loan losses shrinks to 2.185 bln euros in Q4
* Pledges to reach 10 pct ROE in core bank by 2016
* Cost/income ratio weakens to 81 pct in final quarter (Adds investor reaction)
By Thomas Atkins and Arno Schuetze
FRANKFURT, Feb 12 (Reuters) - Commerzbank AG has told investors to brace for higher legal charges after adding close to half a billion euros to its legal reserves in 2014, as negotiations with U.S. authorities over alleged rules breaches near completion.
Commerzbank said on Thursday it had put aside 1.4 billion euros ($1.6 billion) in total for potential costs, related in part to negotiations with U.S. authorities over alleged sanctions violations stemming from transactions with Iran, and accounting fraud at Japan's Olympus Corp.
The lender had been primed to settle with U.S. regulators and prosecutors by late 2014 and rising legal costs threaten to stall its recovery plan.
The bank performed well on an operating level, said Helmut Hipper, senior portfolio manager at Union Investment. "But costs for legal issues are going to remain burdensome for a while," he added.
"We should see a settlement sooner rather than later," Chief Financial Officer Stephan Engels said after the bank posted a higher-than-expected fourth-quarter net profit of 77 million euros ($87 million), due in part to smaller loan-loss provisions.
Engels said some legal charges could still be booked in the 2014 accounts on top of the 484 million euros already added to legal reserves for the year.
Chief Executive Martin Blessing predicted a difficult year ahead due to low interest rates and slow growth in some key businesses, but he promised a more aggressive approach to increase profit in 2015.
Commerzbank, a household name which finances more than a third of Germany's exports, is more than half way through a four-year recovery plan. Blessing has cut costs, shrunk the bank's balance sheet and plans to reduce headcount by around 5,200.
In 2014, the bank's return on equity rose to 7.3 percent in its core bank excluding a portfolio of unwanted investments being wound down, still short of its goal of 10 percent ROE by 2016.
But in a sign the revamp remains on track, the bank's troubled asset portfolio or internal "bad bank" shrank to 84 billion euros from 88 billion at end September.
The unit contains investments stemming from an expansion drive that backfired, requiring the German government to spend around 18 billion euros on a bailout in the financial crisis.
Analysts polled by Reuters had on average expected a quarterly net profit of 58.5 million euros.
Shares hovered near unchanged in midday trading.
The bank's capital ratio calculated in the most stringent form of new bank rules weakened slightly to 9.5 percent at end December compared with 9.6 percent three months before. ($1 = 0.8839 euro) (Additional reporting by Kathrin Jones and Andreas Kroener; Editing by Anand Basu and Vincent Baby)