The Los Blancos star looks set to leave the Bernabeu in the coming weeks after the club moved to snap up James Rodriguez in a deal worth over £60m.
Although he’s seen as one of nation’s top young midfielders, Real are thought to be considering a loan move or a sale for £25m, which was rumoured to have lured City into the running.
Manuel Pellegrini coached the youngster during his breakthrough season at Malaga in 2012/13, but was unable to beat Madrid to his signature last year.
However, the Chilean will not be making a fresh move, with the arrival of Eliaquim Mangala due to be their last piece of business this window, even though Alvaro Negredo will miss the first few months of the season through injury.
A source close to the club said: “Unless there is another injury to another key player, then Mangala will be the final addition to our squad in this transfer window.”
This looks to leave Liverpool clear in the race, with the Reds having already approached Real to discuss a deal.
Brendan Rodgers is thought to see Isco as an ideal marquee arrival following the exit of Luis Suarez.