By Francesco Guarascio

BRUSSELS (Reuters) - The European Commission began formal disciplinary procedures against Spain and Portugal on Thursday for their excessive deficits in 2014 and 2015, which may lead to fines for the two countries before the end of July.

Both had deficits greater than the European Union's limit of 3 percent of gross domestic product in the past two years and failed to correct the deficits quickly enough, the Commission said.

That triggered a process that may further complicate both the fiscal and the political situation in each country. Or it may not - the sanctions have never before been applied, and it's not clear whether they will be imposed this time.

Spanish Economy Minister Luis de Guindos said his country should escape any sanction and would instead work with Brussels on a new deficit-cutting path.

"I am convinced this sanction will not happen, because Spain is the fastest-growing economy in the euro zone and it has passed more reforms than anybody else. It would be a nonsense," De Guindos told journalists at an event in Madrid.

"From there, a new fiscal path can be agreed and this is what is going to happen in the next few weeks," he said.

Even if the fines are canceled, some of the EU funds committed to Spain and Portugal are likely to be suspended for at least a year in the event of a sanction decision, an EU executive document said. So the two countries may have to do with less funding just as they are trying to make ends meet.

And both are coping with fragile political situations. Spain is trying to form a government after a second indecisive election in six months. Portugal's minority government faces huge political hurdles to cut its public expenses as it relies on the support of leftist parties.

The two countries could escape the fines and the suspension of EU funds if they show the rules were breached because of "exceptional economic circumstances". If they do not, and do not propose some corrective measures, fines up to 0.2 percent of GDP may be imposed.

The Commission's decision may re-ignite controversies over the fair application of EU fiscal rules, after bigger countries escaped sanctions in the past. Commission President Jean-Claude Juncker said in May that France was granted budget leeway because "it's France", attracting criticism.

The Council of EU finance ministers will decide on the Commission's recommendation at their regular meeting on July 12, a spokeswoman for the EU's Slovak presidency told Reuters.

Ministers could reject the Commission's assessment only with a qualified majority of its members. That makes it unlikely the Council will oppose the Commission's recommendation. Assuming it does not, the Commission will have to propose sanctions "within 20 days," the EU executive said in a document.

Spain and Portugal may therefore be fined by July 27, the last meeting of the European Commission before the summer break, an EU official told Reuters.

TO FINE OR NOT TO FINE

Before then, the two countries have their opportunity to show they faced exceptional economic circumstances. They can also offer corrective measures. They must act within 10 days of the Council's endorsement of the Commission decision.

"We are open for dialogue. The idea is that we are able to take onboard the arguments that the ministers provide," the EU commissioner for economic affairs Pierre Moscovici told a news conference in Brussels.

"Certainly there will be a possibility within this procedure for the countries to put forward motivated requests to reduce potential sanctions or probably even bring them down to zero," said Valdis Dombrovskis, the EU commissioner responsible for the euro.

The two countries have been under EU's excessive deficit procedure since 2009 because of surging fiscal gaps following the 2007-08 global financial crisis.

In line with the procedure, the Commission set annual targets to gradually reduce their fiscal gaps. But in 2014 and 2015, Spain and Portugal missed the agreed objectives, maintaining deficits well above the 3 percent limit.

Last year, Spain had a 5.1 percent deficit, higher than the required 4.2 percent. Portugal was required to cut its deficit to 2.5 percent of GDP in 2015, but instead had a 4.4 percent deficit.

Moscovici said that Portugal's fiscal gap last year was mostly caused by the state-led recapitalisation of Banif bank, but he stressed that even without the bailout "the targets would not have been met".

The Commission said that Portugal missed its target to correct its fiscal gap, while Spain was "unlikely to correct its excessive deficit" by the deadline. It concluded that neither country took effective action to remedy the situation.

(Additional reporting by Jesus Aguado in Madrid, editing by Larry King)