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By Jalil Hamid and Manny Mogato

KUALA LUMPUR/MANILA, July 25 (Reuters) - The Philippine government and the largest Muslim rebel group failed to reach a pact on Friday to create an ancestral home for 3 million Muslims in the country's south, both sides said.

Such an agreement is seen as vital for a resumption of formal peace talks, but would not guarantee the end of a near 40-year-old conflict that has killed 120,000 people and displaced 2 million on the resource-rich island of Mindanao.

"We failed to settle the old issues after two days of hard bargaining," Mohaqher Iqbal, chief negotiator of the Moro Islamic Liberation Front (MILF), said after talks in Kuala Lumpur brokered by the Malaysian government.

"The talks collapsed because the government was undoing already-settled issues. The signing ceremony set for August 5 was cancelled," he told Reuters. "They're trying to re-open discussions on what had been agreed upon."

Friday's breakdown came a week after both sides reported a breakthrough on the issue following several days of talks. Malaysian and Philippine foreign ministers had been due to witness the signing of the pact on August 5.

A Malaysian goverment source said the two sides became deadlocked over the issue of territorial rights.

"To everyone's surprise, the Philippine government re-visited the territorial issues which took us 14 months to resolve," the source said. "The territorial issue ... has created an impasse and led to the collapse."

No further talks have been scheduled and both sides will return home on Saturday.

SELF-RULE

Manila and the 11,000-member MILF have been talking for more than a decade on how to give Muslims in the south more self-rule. It took nearly four years just to negotiate the expansion of an existing autonomous region.

"We had some disagreements when we were going over the final draft of the agreement on ancestral domain," retired general Rodolfo Garcia, the head of the government's peace panel, told Reuters.

"But I don't think there is a complete breakdown of talks. I'm still hopeful that we could save the negotiations," he said.

Philippine President Gloria Macapagal Arroyo has repeatedly said she wants peace, but hawks in her cabinet are opposed to giving large swathes of land to Muslims and politically powerful Christian clans in the south would oppose a final deal.

In Manila, pro-government legislators moved a bill in the House of Representatives on Thursday to postpone August 11 elections in the current Autonomous Region in Muslim Mindanao (ARMM).

The five legislators said elections to the ARMM should henceforth be synchronised to the three-yearly congressional elections which are held in the second week of May.

The next congressional election is due in May 2010.

Talks to create an ancestral homeland for Muslims stalled in December 2007 over constitutional issues and it took months of diplomacy by Malaysia to get the two sides to return to the negotiating table. (Reporting by Manny Mogato in Manila and Jalil Hamid in Kuala Lumpur; editing by Andrew Roche)

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