The World Bank has suspended new lending to Cambodia in a dispute over the eviction of thousands of poor landowners to make way for a property development in the capital, Phnom Penh.

Relations between the bank and the Cambodian government have frayed over plans by a property developer to fill in a lake in the middle of Phnom Penh to build luxury flats and high-end shops. Thousands have been forced from their homes, with more facing eviction.

The World Bank responded to a critical internal review by calling on the Cambodian government to stop evictions and agree to fair compensation for remaining landowners. But the two sides have failed to reach agreement and the World Bank's patience has snapped.

In a statement on Tuesday, Annette Dixon, country director, said: "Until an agreement is reached with the residents of Boeung Kak lake we do not expect to provide any new lending to Cambodia. The government is continuing to implement existing programmes and we are working with the government to ensure that all its legal obligations under those projects will be met."

The suspension of new lending follows an investigation by the bank's inspection panel, an internal watchdog, in response to pressure from NGOs acting on behalf of lake residents.

While noting the undoubted benefits for about 1m households of a project to provide poor Cambodians with land titles after the wholesale destruction of legal documents under the Khmer Rouge, the panel pinpointed several problems.

Residents in the Boeung Kak lake area were denied access to due process of adjudication of property claims and were displaced, in violation of the policies the bank agreed with the government for handling resettlement, the panel found. It also said the bank was too slow to respond after the expulsion of 2,000 people. Another 10,000 face eviction to make way for the project, which is led by China's Inner Mongolia Erdos Hongjun Investment Corp, an unlisted firm that has pledged to spend $3bn in Cambodia on property, metal processing and power generation.

The figure dwarfs World Bank lending in Cambodia, one of the world's poorest countries. Existing projects (16 worth about $343m), mainly for health and education, will carry on. The bank's last loan was made in December. The World Bank has lent Cambodia about $50-70m annually in the past few years.

As part of the current spat, the Cambodian government has refused to consider plans for a 35-acre (15-hectare) plot at Boeung Kak to be set aside for housing. Landowners at the lake expected their claims would be respected when government workers began surveying the area in 2006. But the government excluded them from the process in early 2007, and then announced a $79m, 99-year lease to a developer with close ties to the prime minister, Hun Sen. Many of the owners were suddenly accused by the government of being illegal squatters on state-owned land. In 2008, developers began pumping sand into the lake, flooding out homes and virtually destroying the lake's ecology.

An estimated 30,000 people are driven from farmland or urban areas every year to make way for property developments or mining and agricultural projects.