By a vote of 58-40 with one member voting present, Democrats failed to overcome a procedural roadblock put up by Republicans who had demanded more time to receive answers to their questions. One senator was absent.
It leaves Hagel's nomination in limbo while the Senate takes a week-long recess.
Democratic Majority Leader Harry Reid took to the floor immediately after the vote to rail against the move, which he saw as "embarrassing the president" at a time of tensions in the Middle East, on-going war in Afghanistan and North Korea recently testing a nuclear device.
"Republicans have made an unfortunate choice to ratchet up the level (of partisanship) here in Washington," a furious Reid said.
He added that he would call Hagel, a Republican former senator, and say, "I'm sorry for the president, I'm sorry for the country and I'm sorry for you. But I'm not going to give up on you."
In a separate statement, Reid expressed bafflement about what he described as "one of the saddest spectacles I have witnessed in my 27 years in the Senate."
The defeat does not doom Hagel's nomination to lead the Pentagon in Obama's second term, and Reid has already said he would call another procedural vote on the first working day after next week's break.
"I think we all need to take a deep breath," a White House official said on condition of anonymity.
"Senator Hagel is going to be confirmed, if not tomorrow then when the Senate returns from recess."
Republicans had blocked Reid's previous attempts to bring Hagel's nomination up for a vote on the Senate floor, demanding more details on his finances and on Obama's management of a September attack on the US consulate in Benghazi.
Several Republicans including Senators John McCain and Lindsey Graham said Thursday they were ready to drop their blocking tactics, but only after the recess, frustrating White House demands for a vote by the end of this week.
"I really really do hope that nothing happens during the next 10 days, when we won't have a secretary of defense.... I hope nothing goes wrong," Reid said.
Outgoing Secretary of Defense Leon Panetta has discussed his pending departure from Washington and return to California, but officials stress that he will officially remain secretary until a replacement is confirmed.
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