Sterol-resistant CHO cells (SRD-1 cells) fail to repress sterol synthesis and LDL receptor gene transcription when incubated with 25-hydroxycholesterol. Here we trace the defect to a rearrangement in the gene encoding SREBP-2, a membrane-bound transcription factor that regulates cholesterol homeostasis. SREBP-2 is an 1139-amino acid protein that is bound to extranuclear membranes via a carboxy-terminal attachment domain. In sterol-depleted cells a protease liberates the amino-terminal fragment (approximately 480 amino acids). This fragment, which contains the transcriptional activation and bHLH-Zip domains, translocates to the nucleus. 25-Hydroxycholesterol abolishes protease activity and halts transcription. SRD-1 cells produce a soluble, truncated form of SREBP-2 (amino acids 1-460) that lacks the membrane attachment domain and activates transcription directly, bypassing the sterol-regulated proteolytic step. Although SRD-1 cells produce full-length SREBP-2 from the wild-type allele and a related transcription factor, SREBP-1, they fail to cleave both of these precursors, indicating that the truncated form of SREBP-2 down-regulates the protease through a form of end-product feedback inhibition. The current data provide genetic evidence for the previously proposed model in which cholesterol homeostasis is controlled by sterol-regulated proteolysis of a membrane-bound bHLH-Zip transcription factor.