WARSAW—The Polish government is considering stripping its troubled LOT Polish Airlines of all assets and moving them to a smaller airline that it controls, a person familiar with the matter said Monday, a transition intended to salvage LOTs historic name.

The loss-making LOT in December requested state aid as passenger numbers fell drastically in the second half of 2012. It received $127 million in an emergency loan for six months from the state. The European Commission could rule that this form of public aid distorts competition, which would force LOT to return the funds and likely result in its uncontrolled bankruptcy.

The government, which holds 93% of LOT and 62% of smaller peer Eurolot, said in January that LOT would have to restructure and shrink by nearly a half, with Eurolot taking over domestic and European flights and LOT left to operate routes to the U.S. and Asia. A more radical solution, with Eurolot filling in for LOT on all destinations, could offer a permanent fix. This would allow the LOT brand to continue under the operations of Eurolot without the heavy baggage of debts and staff redundancy negotiations with trade unions.

"The possibility of Eurolot taking over all of LOTs assets in one step is one of the options considered—some at the treasury ministry are pushing very strongly for it," said the person, who spoke on the condition of anonymity. "Details are being fine-tuned now."

"Another option would be for Eurolot to very gradually take over that part of LOTs business that makes sense, which would lead to Eurolot operating domestic and European flights and LOT servicing long-haul flights. Eurolot would be technically prepared for either of these options," the person added.

Whichever of the two options the government chooses, the transition will be delicate and take many months, the person said. "If any leasing company loses its patience and decides to take an airplane back from LOT, it could mean an uncontrolled bankruptcy."

The government is set to discuss the issue Tuesday, even though LOT isnt officially on the cabinets agenda for the day, the person added. A government agency is in the process of negotiating the purchase of the remaining 38% of Eurolot from Polands national carrier, which has been shedding its assets for years to keep operating.

The treasury ministry said it was working to determine LOTs future, but "its too early to talk about any single scenario" for the carrier.

Swissair and Austrian Airlines, both now owned by Deutsche Lufthansa AG, underwent a similar transformation that resulted in their units taking over the businesses of their troubled parents.

LOTwas founded in 1929 and is one of the worlds oldest airlines. Although Polands prime minister said in January the country wouldnt save LOT at any price, the airlines woes are generating negative publicity for the government that has played a more active role in managing state-run businesses than some previous administrations.

LOT has sought to increase its international prominence using the recently expanded airport in Warsaw as its hub and Boeing Co.s new long-haul 787 Dreamliner aircraft, which it received in November—the first carrier in Europe to do so. However, fuel leaks and battery problems prompted the U.S. Federal Aviation Administration and the European Aviation Safety Agency to ground all 787s last week, for which LOT said it would seek compensation from Boeing.