The Israeli Embassy in Washington announced late on Tuesday that the amount was "suggested" by Israel.
"Israel accepts that the United States does not view some of the Israeli activities to date in parts of Judea, Samaria and Gaza as being consistent with US policy," the statement reads.
"Israel understands that the US should not finance directly, or indirectly, activities with which it does not agree." Israel "therefore suggested that the US deduct the agreed sum of $289.5 million from the $3 billion in loan guarantees currently available."
An Israeli diplomat told AFP the decision was taken on Tuesday following a meeting in Washington between US national security adviser Condoleezza Rice, and Dov Weisglass, Israeli Prime Minister Ariel Sharon's chief of staff.
White House national security spokesman Sean McCormack said the United States welcomed what he also characterised as Israel's "suggestion" that the loan guarantees be reduced because of the disagreements.
"This suggestion acknowledges US policy concerns and US law regarding activities in the West Bank and Gaza and is a reflection of close and continuing consultations between our two governments," he told AFP.
US condemned Israel's policy of
placing "walls and fences"
During a speech in London last week, US President George Bush publicly criticised Sharon's hardline policies in the West Bank and Gaza Strip, after behind the scenes pressure failed to bring results.
Bush said Israel must "freeze settlement construction, dismantle unauthorised outposts, end the daily humiliation of the Palestinian people and not prejudice final negotiations with the placement of walls and fences," in reference to the globally condemned "apartheid wall" being built across the West Bank.
Funding the 'apartheid wall'
In addition to the banking guarantees, Israel in 2003 got $1 billion dollars from Washington following the war in Iraq, money that came on top of the annual US assistance of almost $3 billion dollars a year, which includes $2.1 billion in military aid.
The $289.5 million figure is the amount Washington has
Israel must end daily humiliation
of Palestinians, says the US
estimated will fund building in the occupied territories,
including building parts of Israel's "security barrier" deep within the West Bank.
Israel can, in theory, still receive up to $3 billion in loan guarantees in 2004, but the government of Ariel Sharon has for the moment claimed only for $1.6 billion, the State Department said in September.