JERUSALEM (Reuters) - Israel sought on Monday to lower U.S. expectations for any deal with the Palestinians this year, brushing aside pressure over settlements and calling for decisions on Jerusalem's future to be deferred.

U.S. Secretary of State Condoleezza Rice ended her sixth trip to the region this year with no sign of progress in nudging both sides toward a peace deal by the end of 2008.

She held three-way talks with Israeli Defense Minister Ehud Barak and Palestinian Prime Minister Salam Fayyad before making a surprise visit to Beirut.

Disputes over Jewish settlement expansion on occupied West Bank land and a corruption scandal that may topple Israeli Prime Minister Ehud Olmert have undercut U.S. efforts to reach a statehood deal before President George W. Bush steps down in January, officials in the region said.

Faced with the prospect of early elections should Olmert fall, Israel's chief negotiator, Foreign Minister Tzipi Livni, has balked at producing a document that could spell out proposed concessions on borders and other issues, Israeli and Palestinian officials said.

Israeli officials were also cool to suggestions, backed by the Palestinians, that Rice hold more intensive three-way meetings with Livni and her Palestinian negotiating partner, former Prime Minister Ahmed Qurie.

A senior Palestinian official said Olmert and Livni "insisted on bilateral meetings".

Israeli sources said Livni favored a joint announcement that the negotiations will continue after Bush leaves office in 2009, though her position puts her at odds with Olmert and Rice who favor a written agreement this year.

JERUSALEM DELAY

"The goal is still to reach an agreement with the Palestinians by the end of Bush's term," Mark Regev, Olmert's spokesman, told reporters during a visit to Israel's border with the Hamas-controlled Gaza Strip.

But Regev added that Olmert believed it would be "difficult" to reach agreement on the sensitive issue of Jerusalem in that timeframe. He said any joint document should instead look at ways of moving forward with negotiations over the Holy City.

Israel captured Arab East Jerusalem in the 1967 Middle East War and annexed it in a move that has not won international recognition. Palestinians want East Jerusalem to be the capital of the state they seek in the occupied West Bank and Gaza Strip.

"You could have an agreed framework -- methodology on how to move forward -- so Jerusalem would be mentioned but mentioned in the sense of how to move forward," Regev said.

"We don't want to see that issue (Jerusalem) torpedoing the chances of getting a document," Regev said, adding that Jerusalem was the most divisive issue facing negotiators.

Commenting on Regev's remarks, Yasser Abed Rabbo, a member of the Palestinian negotiating team and a top aide to Abbas, said: "There won't be an agreement without Jerusalem. The Israelis know that very well."

Israeli officials said the chances of reaching any joint document had diminished considerably because of the political uncertainty surrounding Olmert.

If a document is agreed, it will focus almost exclusively on statehood borders, with cursory references to Jerusalem and the fate of Palestinian refugees, the officials said.

During her visit, Rice warned Israel that its continued settlement building was harming the peace negotiations.

Israeli officials said the government was unfazed by the criticism and told Rice that the settlement projects were consistent with long-standing policies. Israel wants to retain control of settlement blocs as part of any final deal.

Palestinians fear the enclaves will deny them a viable state.

The Jerusalem municipality announced on Sunday that a regional planning board had authorized building at least 2,550 new homes by 2020 in the occupied West Bank in areas that Israel considers part of Jerusalem.

(Additional reporting by Rebecca Harrison in Sderot, Arshad Mohammed in Jerusalem, and Wafa Amr and Mohammed Assadi in Ramallah; Editing by Dominic Evans)