By Dan Williams

JERUSALEM, Aug 8 (Reuters) - Completion of a deal to boost U.S. military grants to Israel has been held up amid a brewing dispute over when and how the new funds would be disbursed, a senior Israeli official said on Wednesday.

U.S. Undersecretary of State Nicholas Burns, who was expected in Israel this week to finalise the payout of $30 billion in defence aid over a decade, postponed the visit because of "scheduling issues on both sides" but is expected to make a trip in the next few weeks, the State Department said.

It declined comment on the details of the negotiations but reaffirmed U.S. commitment to the deal announced on July 30.

A senior Israeli official said the sides were not ready to wrap up the negotiations because the Bush administration, faced with a yawning budget deficit, wanted to increase the aid -- now $2.4 billion a year -- incrementally.

Israel, which has been scrambling to build up its military since last year's Lebanon war and ahead of any showdown with arch-foe Iran, has asked to receive a chunk of the $30 billion up front, or for the money to be spread evenly over 10 years.

"Israel has acute security needs, particularly over the next two or three years," the Israeli official said. "Burns was coming to sign, but the sense here was that we should first explain these needs to the administration. There has been no discussion on the year-by-year amount (to be paid to Israel)."

The aid to Israel is part of a Middle East package that the Bush administration hopes would bolster its allies against an ascendant Iran. Egypt is expected to receive an additional $13 billion over the coming decade while Saudi Arabia could get comprehensive arms upgrades worth $20 billion.

The grants require U.S. congressional approval. The Israeli official noted that Congress generally backs military aid to the Jewish state. But with President George W. Bush -- a major ally for Israel -- leaving office in 17 months, the Israelis are keen to lock down a stable aid-payout deal now.

ZERO SUM

A senior U.S. official said there are annual ceilings on how much the United States may spend on such Foreign Military Financing aid around the world, calling the process of deciding how much to give each country each year a "zero-sum game."

"For each given fiscal year you take money from one pot and put it into another -- that is a zero-sum game," he said. "So it is a matter of how over the course of 10 years, 10 budgets, you structure the programme not only with respect to each individual country but globally."

Salai Meridor, Israel's ambassador to Washington, denied that Burns's postponed visit signalled something was amiss.

"America not only supports Israel, it decided in response to the request of the Israeli prime minister to increase the defence aid to Israel, despite its own great needs, especially security needs," Meridor told Israel Radio in an interview.

Should the Americans stand firm on their incremental plan, the Israeli official said, Israel may ask, as a trade-off, for more money to be earmarked for Israeli military industries.

Most U.S. defence aid to foreign allies must be spent on American products, but Israel is allowed to divert 26.3 percent of the funds it receives for domestic use. This "Offshore Procurement" (OSP) is sensitive as it benefits Israeli arms firms that could end up competing with American counterparts.

"I think the U.S. is going to be a lot more flexible on the OSP," the Israeli official said, but added that there would be limits on any increase because "even Israel's biggest supporters don't like the idea of an exception to the rule".

(Additional reporting by Arshad Mohammed in Washington)

AlertNet news is provided by