J.C. Flowers upped the stakes in the rescue battle for Northern Rock, offering to improve its bid but also warning it would walk away if the government won't talk, a person close to the U.S. buyout firm said.

J.C. Flowers has addressed the two concerns the British government had with its initial proposal, the person said on Friday.

The government wants to ensure all the money it has lent to Northern Rock will be repaid on a par with other creditors and that shareholders are offered some exposure to any turnaround.

But the finance ministry has not been willing to discuss the issues since selecting a rival consortium led by Virgin Group on Monday, and J.C. Flowers would consider withdrawing if it cannot discuss the issues, the person said.

The finance ministry said it was ready to have discussions with any bidder that met its principles. Northern Rock declined to comment.

J.C. Flowers, the buyout group founded by former Goldman Sachs partner Chris Flowers, plans to immediately pay back 15 billion pounds ($31 billion) to the Bank of England (BoE) and the remainder of the debt would now be considered on a par with other creditors, the person said.

Northern Rock is estimated to have borrowed over 25 billion pounds from the BoE.

The Virgin consortium plans to immediately repay 11 billion pounds of the BoE loans and pay back the balance by 2010 on terms on a par with other creditors.

J.C. Flowers is willing to provide Northern Rock shareholders some exposure to the bank's turnaround, and wants to discuss how this could be structured, the source said.

The source said the buyout firm believed it had addressed the government's concerns and that its offer was better for taxpayers and shareholders, and should be discussed.

At 1215 GMT, Northern Rock shares were down 7.6 percent at 107.8 pence, cutting the bank's market value to just under 500 million pounds.

(Reporting by Steve Slater, additional reporting by Sumeet Desai and Clara Ferreira-Marques; editing by Sue Thomas)