An £18 million EU offer to fund the building of a peace and reconciliation centre at the former Maze prison site has been withdrawn.
The Democratic Unionists earlier halted plans to build the facility at the Maze, near Lisburn, as relations with their powersharing partners Sinn Fein deteriorate. Republicans have warned of a crisis facing the devolved administration after a summer of violence on the streets.
The European Union had offered the money but after talks with the Office of the First Minister and Deputy First Minister the body responsible for allocating the finance said it had decided the project was no longer viable.
A spokesman for the Special EU Programmes Body (SEUPB) said: "The SEUPB has been in discussions with the lead partner in relation to the viability of the Peace Building and Conflict Resolution Centre.
"It has been agreed that the project is no longer viable at this time and the SEUPB has therefore rescinded the letter of offer.
"The SEUPB will now consider the re-allocation of funding to suitable projects."
The Maze/Long Kesh - famously the site of the IRA hunger strikes - closed in 2000 when inmates from the Troubles were released and unionists and nationalists have renewed long-standing divisions over what to do with it after initially reaching a consensus.
A watchtower, H-block cell and prison hospital where Bobby Sands starved to death in a 1981 campaign for political status have been preserved but the Prison Officers' Association (POA) has said the relics should be razed to the ground.
First Minister Peter Robinson's Democratic Unionists executed a U-turn on support for the reconciliation centre on the site earlier this year amid victims' fears the violence of 30 years could be glorified.
It followed weeks of violence over loyal order parades and protests against restrictions on the flying of the union flag from Belfast City Hall. Unionists also accused senior Sinn Fein member Gerry Kelly of celebrating terrorism at a republican commemoration in August of two IRA men killed by their own bomb.
Sinn Fein Deputy First Minister Martin McGuinness has said the centre would be a "shrine to peace", a tourist attraction akin to Robben Island and a base to help resolve other intractable conflicts.
He recently said there would be no wider development of the sprawling site of the former paramilitary prison without the centre and warned of the challenges facing the devolved political institutions.
Nationalist SDLP Stormont assembly member Alex Attwood said Government paralysis was not the way to solve political problems and added that the collapse of the peace centre plan would not be well-received in Europe.
"There will be an element of not just disappointment but some anger that the response from so-called political leaders in the north is to see a project like this lapse," he said.
"This is a bad day for politics and for the relationship between Northern Ireland's Government and the European Union."
Ulster Unionist MLA Tom Elliott, who was one of the chief critics of the centre, acknowledged there would be scepticism in Brussels.
"It did not have widespread community support within Northern Ireland and you only have to talk to victims' groups who were opposed to the potential of a shrine," he said.
"I think it is hugely positive for them to know that we are not going to have a terrorist shrine there."
Hardline Traditional Unionist Voice leader Jim Allister welcomed Europe's decision.
"I am delighted by the news that the SEUPB has today announced that the money will be reallocated. I trust, however, it is spent wisely and not on some other unmeritorious schemes."