The United States is cutting over 200 million dollars in aid to Gaza and the West Bank.
The State Department said the decision came after a review to ensure that assistance is spent in accordance with U.S. national interests.
Recent months have seen tensions remain high in Gaza with regular protests at the fence with Israel often turning violent.
The Palestinian leadership has boycotted U.S. peace efforts ever since President Trump decided to recognise Jerusalem as Israel's capital city.
He moved the American Embassy there, reversing decades of U.S. policy in the region.
In January, Washington withheld more than half of 125 million dollars promised to the UN Relief and Works Agency, which supports some five million Palestinian refugees.
The UN says withholding aid exacerbates economic hardship. The Palestinian Liberation Organisation accused the Trump administration of using "cheap blackmail as a political tool".