Inhibitory Smads (I-Smads) repress signaling by cytokines of the transforming growth factor-beta (TGF-beta) superfamily. I-Smads have conserved carboxy-terminal Mad homology 2 (MH2) domains, whereas the amino acid sequences of their amino-terminal regions (N domains) are highly divergent from those of other Smads. Of the two different I-Smads in mammals, Smad7 inhibited signaling by both TGF-beta and bone morphogenetic proteins (BMPs), whereas Smad6 was less effective in inhibiting TGF-beta signaling. Analyses using deletion mutants and chimeras of Smad6 and Smad7 revealed that the MH2 domains were responsible for the inhibition of both TGF-beta and BMP signaling by I-Smads, but the isolated MH2 domains of Smad6 and Smad7 were less potent than the full-length Smad7 in inhibiting TGF-beta signaling. The N domains of I-Smads determined the subcellular localization of these molecules. Chimeras containing the N domain of Smad7 interacted with the TGF-beta type I receptor (TbetaR-I) more efficiently, and were more potent in repressing TGF-beta signaling, than those containing the N domain of Smad6. The isolated N domain of Smad7 physically interacted with the MH2 domain of Smad7, and enhanced the inhibitory activity of the latter through facilitating interaction with TGF-beta receptors. The N domain of Smad7 thus plays an important role in the specific inhibition of TGF-beta signaling.