A B-6K strategic bomber aircraft of the Chinese Air Force is seen before the China International Aviation and Aerospace Exhibition in Zhuhai, Guangdong province, October 25, 2016.
Tensions have been rising between China and the USA for months amid an escalating trade war between the two countries.
Chinese bombers are increasingly active and flying farther from China's shores, according to a Department of Defence report released Thursday.
"China's plans to power these islands may add a nuclear element to the territorial dispute", the Pentagon said in the report titled "Military and Security Developments Involving the People's Republic of China". Five other countries - including the Philippines and Vietnam - also have claims in the waters, which have led to clashes over fishing rights and energy exploration.
The assessment was contained in an annual report that highlighted China's efforts to increase its global influence, with defence spending that the Pentagon estimates exceeded $190bn in 2017.
The analysis adds that China may be seeking the "capability to strike US and allied forces and military bases in the western Pacific Ocean, including Guam", and that Beijing is developing a "stealthy, long-range strategic bomber with a nuclear delivery capability that could be operational within the next 10 years".
Activities around Taiwan and in the East and South China Sea are also alarming given Beijing's contested interests in these areas.
While Washington and Beijing maintain a military-to-military relationship aimed at containing tensions, this has been tested in recent months, notably in May when the Pentagon withdrew an invitation to China to join a multinational naval exercise.
China claims the waters by right, despite a United Nations ruling in 2016 deciding the disputed region does not belong to China.
Under the newly emboldened rule of President Xi Jinping, China is seeking to project military power across the globe by showing off his modernised air force and navy.
In regards to Taiwan, the reports warns that China "is likely preparing for a contingency to unify Taiwan with China by force".
It is estimated China spent more than $190bn (£149bn) on defence previous year, with the Pentagon predicting a rise to $240bn (188bn) by 2028.
Chinese foreign ministry officials have claimed the USA is "running amok" in the region.
"Should the United States intervene, China would try to delay effective intervention and seek victory in a high-intensity, limited war of short duration", Pentagon officials notes.
"However, it continued to build infrastructure at three outposts", the report says.
Media captionA BBC team flew over the disputed South China Sea islands in a USA military plane.