* IAEA reports "construction activities" at Iran's Parchin site
* May add to Western suspicions of nuclear cleanup attempt
* Iran denies any atomic bomb research; says programme peaceful
* Progress in IAEA inquiry seen crucial for broader diplomacy
A confidential report by the International Atomic Energy Agency said Iran for the first time in years had begun engaging with a long-stymied IAEA inquiry into allegations that it may have worked on designing a nuclear weapon.
But any hope that Iran may be ready to fully address concerns about its nuclear activities will be tempered as long as it refuses to give the U.N. agency access to a location at the Parchin base southeast of Tehran, and information about it.
U.S. officials say it is vital for Iran to answer IAEA questions if Washington and five other powers are to reach a broader nuclear settlement with Iran by a self-imposed deadline of July 20. However, Tehran's repeated denials of any nuclear bomb aspirations will make it hard for it to admit to any wrongdoing in the past without losing face.
The IAEA report issued to member states late on Friday said satellite images showed "ongoing construction activities" at Parchin, a finding that could add to Western suspicions that Iran has been trying to hide any incriminating evidence of illicit nuclear-related experiments there.
"It seems clear that there is more sanitisation going on," one Western envoy said, noting indications of major alteration work at Parchin since early 2012, such as soil removal and asphalting of the specific place the IAEA wants to see.
"I can think of no other explanation for 28 months of cleanup and denied IAEA access at Parchin except an attempt to hide all traces of something from IAEA environmental sampling."
The IAEA, which has requested Parchin access for more than two years, says it has information that Iran built a large steel chamber there for explosives tests, possibly more than a decade ago. It said back in 2011 that "such experiments would be strong indicators of possible nuclear weapon development".
Iran denies Western suspicions that it has been seeking to develop the capability to assemble nuclear weapons. It says Parchin is a conventional military facility and has dismissed the cleansing allegations.
"The activity at Parchin gives ample reason for continued concern that Iran may be trying to remove any remaining vestiges of nuclear-related experiments," said Mark Fitzpatrick, director of the non-proliferation program at the International Institute for Strategic Studies (IISS) think-tank in London.
But one should not leap to conclusions of guilt, he added. "The activity may also be for some entirely innocuous purpose."
IRANIAN COOPERATION "IMPROVING"
The IAEA's suspicions about Parchin were part of a 2011 report that included a trove of intelligence information pointing to Iranian research in the past that could be relevant for nuclear weapons, some of which it said may be continuing.
Iran says it was based on false and baseless information. But it has offered to work with the IAEA to clear up the case since pragmatist Hassan Rouhani won the presidency last year, pledging to end Tehran's international isolation.
The IAEA-Iran talks are separate from those between Tehran and the United States, France, Germany, Britain, China and Russia. But they are complementary as both focus on fears that Iran may covertly be using a nuclear power and research programme as a cover for developing a weapons capability.
Friday's IAEA report said Iran had started engaging on one issue in the investigation, by providing explanations about the development of detonators that can, among other things, be used to set of an atomic explosive device.
It also agreed last week to provide the IAEA with information in two other areas of the inquiry, including allegations about the initiation of high explosives.
"The engagement and cooperation (shown by Iran) has been improving all the time," a senior diplomat said.
But the IAEA report showed little progress so far regarding Parchin, saying the U.N. agency continues to seek answers to "detailed questions" submitted to Iran about it.
It said the activities it had noticed "appear to show the removal/replacement or refurbishment of the external wall structures of the site's two main buildings". The alleged test chamber was believed to have been constructed in one of them.