Palacio del Inka (sp?) was a nice hotel, I stayed there in late 06 and IIRC at the time it was just about the top hotel in Cusco.

I would seriously consider staying at both the Tambo and the Palacio, as it would be a great shame to go to this area and NOT see Cusco, but the Urubamba valley is also a great place to spend some time before taking the train or starting the trail.

()btw there is a lot to do in Peru and in this area that is at least as impressive as Machu Pichu, if not quite as well-reconstucted as yet - make time to see the other temple sites.