Prime Minister Benjamin Netanyahu's office said the decision was made following the recommendation of Israel's security establishment and because of humanitarian considerations. Israel has been under international pressure to release the frozen funds and Israeli security officials had warned that continuing to hold back the revenue could spark violence.
Under existing agreements, Israel collects taxes and customs on behalf of the Palestinians and then transfers the sums to them. It has withheld funds before as retaliation for unilateral Palestinian actions. Over the past three months it has collected hundreds of millions of dollars without transferring the funds.
Israel withheld the tax transfers it collects for the cash-strapped government of Palestinian President Mahmoud Abbas after he applied to join the ICC — a move potentially paving the way for a war crimes investigation of Israel.
That and other moves prompted Abbas to complain that Israel had eroded the authority of his self-rule government in the West Bank to the point where it has "no real power here over anything."
Abbas' Palestinian Authority hasn't been able to pay its civil servants and has warned that it is nearing collapse.
Netanyahu said in a statement that it was in Israel's interest to transfer the money.
"Given the deteriorating situation in the Middle East, one must act responsibly and with due consideration alongside a determined struggle against extremist elements," he said.
The move may be part of Netanyahu's attempt to contain the international fallout from remarks he made ahead of elections earlier this month, when he said the current regional climate made it impossible to create a Palestinian state.
The remarks helped him to rally his right-wing base, and his subsequent victory virtually ensured he would serve another term. But the statements enraged Washington, which has pressed for a return to negotiations on a two-state solution to the conflict.