Senate GOP leaders agreed yesterday to block any tax cut that exceeds $350 billion, slashing President Bush's proposed tax reduction by more than half and dealing him a rare setback at the hand of fellow Republicans.

The president has insisted that a $726 billion, 10-year tax cut is needed to spur investment and rev up the economy. But even his high poll ratings, apparent success in Iraq and GOP control of both houses of Congress weren't enough to win over a handful of crucial Republican moderates who oppose major tax reductions in times of war and high budget deficits.

As a result, the centerpiece of Bush's tax plan -- a proposal to eliminate the tax that investors pay on corporate dividends -- appears in deep jeopardy. The move also angered House Republican leaders, who said their Senate counterparts had agreed to keep the door open to a larger tax reduction.

Yesterday's agreement cleared the way for the Senate's 51-to-50 passage of a $2.27 trillion budget blueprint that sets outlines, but not specifics, of tax and spending policies for the fiscal year starting Oct. 1. It's possible that Bush and his conservative allies can enlarge the tax cut in the coming months, but it will require a switch in positions by at least a couple of centrist senators who thus far have stood firm against tax cuts exceeding $350 billion over 10 years.

To accommodate Bush's proposal, his Senate allies needed the votes of two GOP dissidents, Olympia J. Snowe (Maine) and George V. Voinovich (Ohio). The two refused to budge, however, presenting Senate leaders an unpleasant choice. They could insist on the larger tax cut and thereby fail to pass a budget resolution -- an embarrassment that would make it virtually impossible to win eventual Senate passage of any tax cuts. Or they could agree to the $350 billion limit, gain Snowe's and Voinovich's critical votes for the budget resolution, and accept the inevitable complaints from the House and the administration.

The second option was taken by Majority Leader Bill First (R-Tenn.), Budget Committee Chairman Don Nickles (R-Okla.) and Finance Committee Chairman Charles E. Grassley (R-Iowa). Grassley told his colleagues on the floor, "Let me be clear: without this agreement, the budget resolution conference report would not pass the Senate today. This means that, at the end of the day, the tax cut side of the growth package will not exceed $350 billion."

A short time later, the Senate voted 50 to 50 on the budget resolution, and Vice President Cheney broke the tie with an aye vote.

The House earlier yesterday voted 216 to 211 to approve the resolution, which would allow a tax cut of as much as $550 billion. That figure, House GOP leaders said, was a reasonable compromise, and they reacted angrily to news of the Senate's insistence that nothing above $350 billion would be acceptable.

House Budget Committee Chairman Jim Nussle (R-Iowa) called Grassley's action "offensive," adding, "Even the French had the courtesy to inform the United States they were not voting with us in the U.N." regarding Iraq.

"The secret agreement . . . violates the spirit of this budget compromise," said Speaker J. Dennis Hastert (R-Ill.). House Majority Leader Tom DeLay (R-Tex.) called on Frist to rectify the situation. "This goes to the heart of our ability to work together," he warned. "This is pretty serious business and has serious long-term implications."

A senior Bush administration official said of the $350 billion tax cut limit: "My understanding is a handful of senators reached a side agreement. We were not a party to it and we don't agree with it."

In a statement last night, Frist said he should have informed House leaders, and added, "I will work with the president, Speaker Hastert and my House and Senate colleagues to enact the biggest growth package in line with the president's request, period." He did not elaborate on his intentions.

The deal capped a week of negotiations to resolve a deep difference between the House, which previously had approved Bush's entire tax cut package, and the Senate, which had voted narrowly to cut it by more than half, to $350 billion. As finally approved by House and Senate negotiators, the budget resolution would allow Congress to approve as much as $550 billion in tax cuts later this year under an expedited procedure that allows passage by a simple-majority vote in the 100-member Senate, instead of the usual 60 votes needed for a controversial issue.

But Snowe and Voinovich refused to go along, insisting on a cut of no more than $350 billion. In a Thursday evening meeting just off the Senate floor, Frist, Nickles and Grassley met with the two holdouts in an attempt to win their support for the budget deal that had just been negotiated between the two houses.

As Grassley recalled it, Snowe and Voinovich held firm, meaning the budget resolution would fail by two votes. Frist walked across the Capitol to tell Hastert the Senate could not pass the budget resolution. While he was gone, Voinovich asked Grassley if he would agree to hold any eventual tax cut to $350 billion. Grassley said yes, provided that Frist and Nickles agreed. "They readily agreed," Grassley said.

In an interview, Grassley said a tax cut of more than $350 billion could be passed this year only if Snowe and Voinovich changed their minds, or if spending cuts were found to offset a larger tax reduction. That's possible, he said, but not likely.

Without the agreement, no tax cut of any size would be likely to pass the Senate, Grassley said.

Almost obscured in the ferocious debate over taxes was a struggle over limits on federal spending for next year. For programs controlled by annual appropriations, the budget resolution sets a spending limit of $784 billion, a 2.3 percent increase over current levels. It generally reflects Bush's spending priorities.

Military spending would increase from $392 billion to $400 billion, on top of large increases approved for this year. Domestic expenditures would rise from $373.7 billion to $384.4 billion, according to GOP figures.

Democrats have charged that the domestic spending will not keep pace with current levels of demand and thus will lead to program cutbacks. Republicans said the levels are lean but adequate. The final agreement dropped earlier demands by House Republicans for $265 billion in mandatory cutbacks in a variety of social welfare programs over the next decade, including veterans benefits and health care. But Democrats say the budget will leave domestic programs $168 billion short of the funds needed to support them at their current levels.

The budget resolution anticipates a record-high budget deficit of $385 billion for next year. The previous record, not adjusted for inflation, was $290 billion in 1992. Deficits are projected to continue through the next decade, gradually declining but adding a total of $1.4 trillion to the national debt before the budget returns to surplus in 2012.

Under Congress's peculiar rules for increasing the debt ceiling, the House gave its assent to a debt limit increase of nearly $1 trillion -- on top of the current limit of $6.4 trillion -- when it approved the budget. But the Senate must approve separate legislation to raise the ceiling and does not plan to do so until after it returns from a two-week recess. The budget also reimposes budget disciplinary rules, including spending caps that can be lifted only by a 60-vote majority in the Senate, that lapsed last year when the Senate, then under Democratic control, failed to agree on a budget with the GOP-run House.

Cheney's tie-breaking vote was his fourth since becoming vice president and the Senate's presiding officer. His last was cast in May 2002 on a trade bill.

Staff writer Juliet Eilperin contributed to this report.

Sen. Olympia J. Snowe (R-Maine) was one of two Republican holdouts insisting on a reduced tax cut of $350 billion.