Telecoms regulator Ofcom has warned BT that it must demonstrate a willingness to provide its rivals with "real equality of access" to its phone lines.
Reviewing BT's ownership of the great majority of the UK's physical phone lines, Ofcom said BT must take action or face a Competition Commission probe.
Ofcom added that BT would have to make both "behavioural and organisational" changes.
BT had faced the alternative threat of being broken into two separate firms.
The company said it was "pleased with the direction outlined in the report".
And chief executive Ben Verwaayen added: "We welcome Ofcom's call for a new settlement - where regulation is tightly focused on the parts of the market that need it, with deregulation elsewhere."
Ofcom wants rivals to have equal ability to offer both landline and broadband internet services, but ruled out full deregulation of the UK's telecoms market.
"Given BT's continued market power, this would be unlikely to encourage the growth of greater competition and as such would not serve the best interests of
the consumer," it said.
Instead, BT's Wholesale arm, which looks after its line network, must now offer rival phone providers exactly the same service as it does BT Retail, BT's own customer facing division.
Ofcom said competitors must have access to products and processes that were "truly equivalent to those offered to BT's own retail businesses".
"It is clear that such changes are a necessary pre-condition if there is to be any confidence that BT will not discriminate unfairly against competitors and in favour of its own retail businesses," it added.
'Risk to investment'
If BT was unable to demonstrate a commitment to "equality of access" it would face a "disruptive and expensive" investigation by the Competition
Commission, Ofcom said.
It added that if BT does not deliver, "Ofcom will consider an
investigation under the Enterprise Act and potential subsequent referral to the
Consultation on Ofcom's plans will close in February next year.
BT has strongly opposed any moves to split its BT Wholesale network infrastructure from BT Retail, claiming it would put investment in new products such as broadband at risk.
Centrica Telecoms, the landline phone arm of British Gas, said it welcomed Ofcom's proposals.
"Ofcom has correctly analysed the problems which have beset competition over the last 20 years in the telecoms sector," it said.
"It recognises that companies who rely on BT to provide wholesale access have experienced 20 years of slow product development, inferior quality wholesales products, poor processes and an overall lack of transparency which these proposals at last address."
BT boss Mr Verwaayen said a tightly focused regulatory regime "would be a real prize for the industry, consumers and for British competitiveness".
He promised that the company "would engage constructively with Ofcom and the industry during the final phase of the strategic review, looking forward to achieving regulatory certainty that will encourage investment and innovation".