CIT Group Inc is in talks with a group of bondholders for $2 billion to $3 billion in rescue financing as it tries hard to avoid bankruptcy, a source close to the company said late on Friday.

Bankruptcy is possible if these talks fail, and CIT, a 101-year-old lender that services nearly one million small- and mid-sized businesses, is also exploring the possibility of getting debtor-in-possession (DIP) financing, the source said.

The focus of talks turned to the bondholders after earlier negotiations with JPMorgan Chase & Co and Goldman Sachs Group Inc about short-term financing out of court did not result in a deal, the source said.

JPMorgan and Goldman, along with Barclays PLC and Morgan Stanley, which is also advising the company, might still take part in a DIP financing should the lender go that route, the source said.

CIT's bondholders were going to hold another conference call on Saturday, a source in the lender's bondholder group said.

The source in the bondholders' group said earlier on Friday that many bondholders were pursuing a debt for new debt exchange and that a debt for equity exchange was not a real consideration.

They haven't thrown the towel, and they still are trying to work very hard to get some sort of funding, but at the end of the day I still think that there is a very high risk of a bankruptcy event, said Sameer Gokhale, an analyst at KBW.

Earlier on Friday, the source close to the company said one potential scenario was a sale of some assets to raise capital. The lender had wanted regulators' permission to transfer certain assets to its bank unit, but that did not happen.

The company's shares moderated early gains on Friday and closed up 29 cents, or 71 percent, at 70 cents, after more than doubling their price amid hopes of financing from the large banks. The company lost 75 percent of its market value on Thursday as government talks for financing collapsed and bankruptcy loomed.

Separately, Standard & Poor's said it was removing CIT from its S&P 500 market index as of July 24 after the close of trade, replacing it with software maker Red Hat Inc.

CIT's credit default swaps rose to about 51 percent as an upfront cost on Friday afternoon, according to Markit Intraday data, up from about 44 percent on Friday morning and up from about 48 percent late on Thursday.

The price of CIT's floating-rate notes due in August rose to 71.5 cents on the dollar in busy trading, from about 61 cents late on Thursday, according to MarketAxess.

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The company sought additional help even after gaining the status of bank holding company in December so it could draw $2.33 billion of taxpayer money from the Treasury's Troubled Asset Relief Program.

But the Obama administration declined help, saying it had set high standards for granting aid to companies and leaving private investors as the one alternative to avoid collapse.

The impact of CIT's demise would likely pale by comparison with the collapse of investment bank Lehman Brothers Inc last September, analysts said.

If they can't survive, the market will resolve this for them and move on. I don't see massive systematic disruptions if CIT will not exist three months from now, said Keith Wirtz, president and chief investment officer of Fifth Third Asset Management.

Still, the ripples of a collapse could be widespread and worsen the effects of the economic downturn for some firms.

CIT has about $40 billion of long-term debt, according to independent research firm CreditSights. About $1.1 billion of debt will come due in August, followed by about $2.5 billion by year end.

The New York Post reported JPMorgan could acquire CIT's factoring unit, which finances more than $50 billion of wholesale inventory, at a time of the year when the collapse of the lender could disrupt retailers holidays plans.

CIT declined to comment earlier on Friday and was not available later. But analysts cooled expectations of an asset sale.

It has some valuable franchises, but if they sell the assets in a distressed situation, they don't even get the par value for the assets. They will have to take losses and those losses will further weaken the balance sheet, so that doesn't seem to be a viable strategy, Gokhale said.

(Writing by Juan Lagorio; additional reporting by Chuck Mikolajczak, Burton Frierson, John Parry, Jennifer Ablan and Phil Wahba; Editing by Leslie Gevirtz, Andre Grenon and Carol Bishopric)

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