By Adam Entous
JERUSALEM, June 4 (Reuters) - Israel delayed transferring tax funds to the Palestinian government after Prime Minister Salam Fayyad angered Israeli leaders by lobbying the European Union not to upgrade its ties with the Jewish state.
Israel told Fayyad's government the delay in transferring tens of millions of dollars in tax revenues to pay Palestinian Authority salaries was due to technical problems, Palestinian officials said.
But Israeli officials, speaking on condition of anonymity, said on Wednesday that withholding the money, at least temporarily, was linked to the EU dispute.
"Their efforts will damage our economy," one of the officials said of Fayyad's lobbying efforts.
Israel's Finance Ministry had no immediate comment.
In a letter to the EU dated May 27, Fayyad accuses Israel of "flagrant disregard" of Palestinian rights by continuing to build Jewish settlements and of breaking its commitments to the 27-member European bloc.
Fayyad urged the EU not to upgrade its relations with Israel until the Jewish state "abides by international and human rights laws", including freezing settlement activity.
Earlier this week, Israel announced plans to build nearly 900 new homes in areas of the occupied West Bank that the Israeli government considers part of Jerusalem, despite U.S. and Palestinian calls to stop settlement expansion.
A senior Israeli official expressed "deep regret and disappointment" that Fayyad "spent time and energy in order to disturb and damage our bilateral relations with the European Union".
"These deeds and statements create questions regarding the true intentions of the Palestinians to live with us in peace and coexistence," the official said.
Fayyad has also called on the Organisation for Economic Cooperation and Development (OECD) to deny Israel membership over its building on occupied land.
Palestinian Information Minister Riyad al-Malki said the tax revenues collected by Israel on the Palestinians' behalf, mostly from imports and exports, were not transferred to Fayyad's government at the beginning of the month as normal.
Malki said Fayyad needed the money to pay Palestinian Authority salaries. A Western official estimated monthly gross transfers at up to $90 million.
Asked if the delay in transferring the funds was connected to Fayyad's lobbying efforts, Malki said: "It's too early to tell."
EU foreign ministers are scheduled to debate whether to upgrade existing ties with Israel at a meeting on June 16 in Luxembourg.
At issue is whether to deepen relations governed by the current association agreement, which sets out a schedule for regular political meetings, regulates trade and sets out areas of cooperation from internal security to education.
EU officials say the matter is still being discussed and that no decisions have been taken so far.
A 2003 peace "road map", reaffirmed by Israeli and Palestinian leaders at a conference hosted by U.S. President George W. Bush in November, requires a halt to all settlement activity on occupied land where Palestinians seek statehood. (Additional reporting by Ali Sawafta and Mohammed Assadi in Ramallah; Writing by Adam Entous; Editing by Alison Williams)