Problem with calling the reporting service from web app in IIS 7.5 - HTTP Error 401.1 – Unauthorized

Question

I have the web application that runs under the account that has delegation rights. The app calls the reporting service on the another server and passes the user credentials by

ReportingService rs = new ReportingService();
rs.UseDefaultCredentials = true;
rs.PreAuthenticate = true;
rs.Credentials = System.Net.CredentialCache.DefaultCredentials;

Everything is working fine in IIS 6.

However, exactly the same code throws the HTTP Error 401.1 – Unauthorized when it runs in IIS 7.5.

I believe this is double-hop issue (it works if I hard-coded the credentials). I checked all the IIS settings and do not see what may cause that.

There is no restriction on any IP addresses and the web server and the reporting servers are in the same forest. The site has the Full .Net Trust Level and no secure binding (HTTPS).

For site authentication I have ASP.Net Impersonation and Windows Authentication enabled. And for Windows Authentication, I have Enable Kernel-mode authentication and NTLM and Negotiate providers.

The most puzzled thing is that it is working in IIS 6, but not in IIS 7.5. So there is definitely something specific in IIS 7.5 that I am missing.

Could anyone help me with this problem? Any suggestions and help are greatly appreciated.