Speaking after talks with Palestinian President Mahmoud Abbas in Ramallah, Rice said the expansion of Israeli settlements in the West Bank and east Jerusalem, which the Palestinians regard as part of their future state, was "particularly problematic to the atmosphere of trust that is needed."
Rice, however, said an Israeli-Palestinian peace deal this year was still possible and praised the "seriousness and depth" of talks.
"We continue to believe it is an achievable goal to have an agreement between the Palestinians and the Israelis by the end of the year and by the end of President [George W.] Bush's term," she said.
The Israelis and Palestinians pledged at a U.S.-hosted Middle East conference last November to resume peace talks, draft a settlement plan by late 2008 and come to terms on the form of a future independent Palestinian state.
But their talks have made little tangible progress amid ongoing violence and Israeli construction. Negotiations came to a temporary halt in March following a devastating Israeli offensive in the Gaza Strip, which killed 120 Palestinians, mostly civilians. Israel said the raid was in response to attacks by militants in the enclave, which was seized from Abbas' Fatah movement by the hard-line Hamas in June.
Abbas has also accused Tel Aviv of refusing to remove numerous checkpoints in the West Bank, which he said had damaged the Palestinian economy.
He also said that nothing had been put down in writing as regarded a future peace deal with Israel, but added that talks were continuing and an agreement could be signed by the end of this year.
The U.S. secretary of state is on a two-day tour of the Middle East to look into Israel's commitment to the roadmap plan for peace proposed by international mediators. Under the roadmap, Israel has agreed to remove its West Bank roadblocks. However, it has only closed a fraction of them so far.
