The Cyprus parliament has voted overwhelmingly to reject a tax on bank deposits, putting an international bailout in jeopardy.
A deeply unpopular draft bill would have seized part of saver's bank accounts in order to qualify for the vital bailout.
The 56-seat parliament voted against the bill by 36 votes and 19 abstentions, with one deputy absent.
The levy on bank deposits was a condition for the EU's €10bn (£8.66bn) rescue fund package.
As news broke that the bill had been buried, hundreds of protesters outside parliament cheered and sang the national anthem.
Legislators on the Mediterranean island will now have to find a "Plan B" to raise the required €5.8bn. It the island fails to do so, the country's banks face collapse and risk bankruptcy. Further negotiations are expected on Wednesday.
Protests from Cypriots and the impact on international markets led some MPs to propose exempting savers with smaller deposits.
President Nicos Anastasiades had previously said he believed MPs were likely to oppose the levy. He said: "They feel and they think it's unjust and that it is against the interests of Cyprus at large.
"But I have to admit that it was something which was not expected by the troika and by our friends, the Eurogroup."
Run on banks
The lawmakers were reported to be attempting to change the terms of the deposit tax, with suggestions that a levy on deposits under €100,000 could be lowered to 3 percent and the upper threshold raised to 13 percent.
Banks have been closed in Cyprus since the weekend and could remain closed until Thursday in a bid to avoid a run on them. The Cyprus stock exchange also suspended trading.
Earlier, a military aircraft left the UK with as much as €1m in cash to act as a contingency fund for British military personnel and their families based on the island in the event of cash machines or debit cards stopping working.
The Ministry of Defence said: "The MoD is proactively approaching personnel to ask if they want their March and future salaries paid into UK bank accounts, rather than Cypriot accounts.
"We're determined to do everything we can to minimise the impact of the Cyprus banking crisis on our people."
It had been reported that Cyprus's finance minister Michael Sarris had resigned following fallout from the original proposal but he denied the rumours.