Dactylaplasia, characterized by missing central digital rays, is an inherited mouse limb malformation that depends on two genetic loci. The first locus, Dac, is an insertional mutation around the dactylin gene that is inherited as a semidominant trait. The second locus is an unlinked modifier, mdac/Mdac, that is polymorphic among inbred strains. Mdac dominantly suppresses the dactylaplasia phenotype in mice carrying Dac. However, little is known about either locus or the nature of their interaction. Here we show that Dac is a LTR retrotransposon insertion caused by the type D mouse endogenous provirus element (MusD). This insertion exhibits different epigenetic states and spatiotemporally expresses depending on the mdac/Mdac modifier background. In dactylaplasia mutants (Dac/+ mdac/mdac), the LTRs of the insertion contained unmethylated CpGs and active chromatin. Furthermore, MusD elements expressed ectopically at the apical ectodermal ridge of limb buds, accompanying the dactylaplasia phenotype. On the other hand, in Dac mutants carrying Mdac (Dac/+ Mdac/mdac), the 5' LTR of the insertion was heavily methylated and enriched with inactive chromatin, correlating with inhibition of the dactylaplasia phenotype. Ectopic expression was not observed in the presence of Mdac, which we refined to a 9.4-Mb region on mouse chromosome 13. We report a pathogenic mutation caused by MusD. Our findings indicate that ectopic expression from the MusD insertion correlates with the dactylaplasia phenotype and that Mdac acts as a defensive factor to protect the host genome from pathogenic MusD insertions.