In 1987, a commission led by a former Texas senator named John Tower was convened to investigate allegations of an illegal "arms for hostages" plan carried out by members of then-president Ronald Reagan's administration. The scandal became known as the Iran-Contra affair, because it involved dealings with both the Iranian government and a group of right-wing insurgents in Nicaragua known as the Contras. In actuality, the Iran-Contra affair linked two separate political scandals under one top-secret umbrella.

In the early 1980s, the U.S. supplied Iran with military equipment in exchange for assistance with a hostage situation.

In 1983, the Lebanon-based terrorist group Hezbollah took 30 Westerners hostage, including a half-dozen Americans. When direct negotiations for their release broke down, the Reagan administration began looking for a solution outside of normal diplomatic or military channels. One such solution involved selling desperately-needed military equipment to Iran, a close ally of Hezbollah involved in a bloody war with Iraq. In exchange for the arms, Iran would agree to exert pressure on Hezbollah to release the hostages unharmed.

The Iran-Contra Affair was carried out by members of Ronald Reagan's administration.

This original plan did not work out as planned, with Hezbollah continuing to hold onto the majority of the hostages. Because the United States was prohibited by law to sell weapons to Iran, another plan used Israel as a go-between. This plan also failed. Desperate for a workable solution, the Reagan administration turned to the National Security Agency (NSA) for assistance. The NSA formulated a new strategy for providing arms to Iran, and placed Lieutenant Colonel Oliver North in charge of coordinating the implementation of that covert plan. Thus the seeds of what would become the Iran-Contra affair were planted.

The NSA's plan included a bold and legally questionable decision to inflate the price of any arms sold to Iran in exchange for the release of the hostages. At first, Iran refused to pay the significant mark-up on the weapons but later agreed after realizing other sellers were not forthcoming. The extra money collected from the sale of weapons to Iran would later be used to fund another project already in operation in Nicaragua.

The leftist regime led by Daniel Ortega ruled Nicaragua with an iron fist, and the Reagan administration supported the right-wing Contra fighters seeking to overthrow it. Direct funding of the Contras would violate international law, but the Contra fighters could not sustain their attacks without financial assistance. During this critical portion of the Iran-Contra affair, Oliver North, with the tacit approval of his superiors in the White House and NSA, decided to divert the excess money from the Iranian arms sales to the Contra rebels in Nicaragua.

The precise details of how this illicit "arms for hostages" and funding of the Contra rebels played out may never be known, since many of the documents concerning the Iran-Contra affair were subsequently destroyed by North, his secretary Fawn Hall, and other members of the Reagan administration. Many of those officials directly involved with the Iran-Contra affair resigned in disgrace or were summarily dismissed.

During the actual Tower Commission investigation into the Iran-Contra affair, President Reagan was questioned about his personal knowledge of the NSA's plans. Reagan categorically denied any involvement in the planning or approval of the covert arms sales. His faulty memory, however, did create some public controversy. Reagan did imply that his vice-president, George H.W. Bush, may have been present at certain meetings in which the details of the Iran-Contra affair were discussed. The testimony of Oliver North himself became a riveting televised event, although he claimed not to recall numerous specifics about his covert operation.