The Distal-less-related homeodomain gene Dlx3 is expressed in terminally differentiated murine epidermal cells. Ectopic expression of this gene in the basal cell layer of transgenic skin results in a severely abnormal epidermal phenotype and leads to perinatal lethality. The basal cells of affected mice ceased to proliferate, and expressed the profilaggrin and loricrin genes which are normally transcribed only in the latest stages of epidermal differentiation. All suprabasal cell types were diminished and the stratum corneum was reduced to a single layer. These data indicate that Dlx3 misexpression results in transformation of basal cells into more differentiated keratinocytes, suggesting that this homeoprotein is an important regulator of epidermal differentiation.