The US will close the Palestine Liberation Organisation's mission in Washington, the state department says.
A statement said PLO leaders had failed to engage with US efforts to bring about peace with Israel and attempted to prompt an investigation of Israel by the International Criminal Court (ICC).
A senior Palestinian official called the decision a "dangerous escalation".
The PLO, the internationally-recognised representative of the Palestinian people, opened the mission in 1994.
President Donald Trump is preparing to unveil a long-awaited Middle East peace plan, but Palestinian officials have refused to engage with his envoys since he controversially recognised Jerusalem as Israel's capital in December.
Why is the Palestinian mission being closed?
"The PLO has not taken steps to advance the start of direct and meaningful negotiations with Israel," the state department said on Monday.
"To the contrary, the PLO leadership has condemned a US peace plan they have not yet seen and refused to engage with the US government with respect to peace efforts and otherwise."
The statement also cited Palestinian efforts to get the ICC to prosecute Israelis for alleged violations of international laws and norms regarding the treatment of people and property in the occupied West Bank and Gaza.
Last year the US state department warned the mission that under US law it faced closure if Palestinian leaders continued to do so.
But in May, the Palestinian foreign minister formally asked the ICC's chief prosecutor to launch a full investigation, saying he had "ample and insurmountable evidence".
Israel - which like the US has never ratified the court's founding treaty, the Rome Statute - dismissed the move as a "cynical step without legal validity".
How have the Palestinians responded?
In a statement issued as the US move appeared imminent, PLO Secretary-General Saeb Erekat said: "This dangerous escalation shows that the US is willing to disband the international system in order to protect Israeli crimes and attacks against the land and people of Palestine as well as against peace and security in the rest of our region."
"We reiterate that the rights of the Palestinian people are not for sale, that we will not succumb to US threats and bullying and that we will continue our legitimate struggle for freedom, justice, and independence, including by all political and legal means possible."
Mr Erekat insisted Palestinians would continue to call upon the ICC to open a full investigation.
There was no immediate response from the Israeli government.
What other steps has the US taken?
On Saturday, a state department official said that following a review President Trump had ordered that $25m (£19m) allocated for the care of Palestinians at six hospitals in East Jerusalem "go to high-priority projects elsewhere".
The head of the East Jerusalem Hospital Network warned on Monday that the decision to cut funding put "the health of five million Palestinians at risk".
The hospitals offer health services to Palestinians in the West Bank and Gaza which the Palestinian health ministry is unable to provide, such as cancer care, cardiac and eye surgery, neonatal intensive care and children's dialysis.
Two weeks ago, the US said it was ending hundreds of millions of dollars of funding for the UN agency that provides assistance to five million Palestinian refugees across the Middle East.
Officials said UN Relief and Works Agency (Unrwa) was an "irredeemably flawed operation" whose "endlessly and exponentially expanding community of entitled beneficiaries is simply unsustainable".
Unrwa rejected the claims, saying it provided vital services and that it was the duty of all parties to reach a peace deal that solved the issue of refugees.