Social Security Benefits Tax Seen as Deficit Key : Budget: White House, congressional negotiators resume talks. They remain divided over where to find $50 billion in tax increases and spending cuts.

Now that President Bush has abandoned his opposition to tax hikes, lawmakers and analysts say that the key to achieving a substantial deficit reduction package is whether the White House and Congress will raise taxes on the Social Security benefits of relatively well-to-do retirees.

“Social Security taxation is the linchpin on which the whole thing swings,” said Joseph White, a Brookings Institution political scientist who has co-authored a new book on the decade-long budget debate. “I don’t see how they can do an honest deal without it.”

House Ways and Means Committee Chairman Dan Rostenkowski (D-Ill.), in an interview, endorsed the approach as preferable to his own earlier budget proposal for retirees to forgo Social Security cost-of-living increases for a year.

By expanding upon the current tax system, under which only about 18% of the elderly pay any taxes on their Social Security benefits, the federal government could raise as much as $12 billion in the first year and almost $100 billion over five years.

To spread the pain of a substantial deficit reduction package, “everyone has to participate,” Rostenkowski said. “Generally, senior citizens would support taxing the upper brackets. Even when I went to AARP (the influential American Assn. of Retired Persons) and discussed it with them, they didn’t negate the idea.”

Despite the improved atmosphere in the wake of Bush’s turnaround the previous day, the Administration and congressional negotiators who resumed their deficit-reduction talks remained deeply divided over how to reach their goal of roughly $50-billion worth of tax increases and spending cuts.

Democrats prefer imposing steeper income taxes on the rich, arguing that it would make the tax system fairer and restore some of the system of a progressive tax that was eroded by President Ronald Reagan’s 1981 tax cut.

Congressional Republicans who were willing to discuss new taxes advocated focusing on energy, alcohol and tobacco taxes, which hit middle-income consumers the hardest. Sen. Bob Packwood of Oregon, the leading Republican on the tax-writing Senate Finance Committee, said that he preferred a broad-based tax on energy consumption.

But many Republicans distanced themselves from Bush’s reversal. The sharpest criticism generally came from Republicans running for higher office.

Typical was a statement by Rep. Robert C. Smith of New Hampshire, who is expected to be the Republican candidate for Senate in November. He was one of about 90 Republican members of Congress who sent a letter to the President opposing any tax increase as part of a deficit reduction package.

“I did not support tax increases when I was first elected to Congress and I will not support them now,” Smith said in a statement. “I urge the President to stick to his campaign pledge and not raise taxes.”

Rep. Lynn Martin (R-Ill.), in a tight race for the Senate against Democratic Sen. Paul Simon, said that she would oppose tax increases no matter what the President does.

“I don’t think (higher) taxes are going to reduce the deficit,” she said. “We doubled revenues during the last 10 years and we’re still playing catch-up with the deficit.”

The revolt by congressional Republicans left White House officials scrambling for ways to repair the damage.

“You have to do some damage control,” a senior Administration official said.

More than one-third of the $1.2-trillion federal budget is devoted to just four programs that entitle certain Americans to federal benefits: Social Security, Medicare, farm subsidies and payments to federal retirees.

“We can’t accomplish a summit agreement only with defense and taxes,” said Sen. Pete V. Domenici (R-N.M.). “The question is where we are going to get reductions in the cost of government.”

Democratic participants in the budget negotiations, divided earlier among themselves, agreed to take the first tentative steps toward such a goal Wednesday. Rep. Leon E. Panetta (D-Carmel Valley), chairman of the House Budget Committee, offered an additional $1.9-billion cut in entitlement programs--including Medicare and federal employee benefits--beyond the $3.7 billion already endorsed by House Democrats.

By contrast, the White House is seeking $17 billion in cuts from such programs.

For all the obstacles that still must be overcome before reaching an agreement, both sides in the negotiations stressed the dramatic change in mood engendered by Bush’s announcement.

After six weeks of desultory discussions, sources said, Administration and congressional bargainers for the first time demonstrated serious intentions by discussing such politically charged proposals as a $3-billion, 3-month freeze on cost-of-living increases for retirees and a boost in the amount of Social Security benefits subject to taxation.

Under current law, Social Security benefits are partly taxable to higher-income households. Individuals with income above $25,000 and couples with more than $32,000 in income must pay taxes on 50% of their federal benefits.

Staff writer James Gerstenzang contributed to this story.