Transforming growth factor beta (TGF-beta) signals through three high affinity cell surface receptors, TGF-beta type I, type II, and type III receptors. The type III receptor, also known as betaglycan, binds to the type II receptor and is thought to act solely by "presenting" the TGF-beta ligand to the type II receptor. The short cytoplasmic domain of the type III receptor is thought to have no role in TGF-beta signaling because deletion of this domain has no effect on association with the type II receptor, or with the presentation role of the type III receptor. Here we demonstrate that the cytoplasmic domains of the type III and type II receptors interact specifically in a manner dependent on the kinase activity of the type II receptor and the ability of the type II receptor to autophosphorylate. This interaction results in the phosphorylation of the cytoplasmic domain of the type III receptor by the type II receptor. The type III receptor with the cytoplasmic domain deleted is able to bind TGF-beta, to bind the type II receptor, and to enhance TGF-beta binding to the type II receptor but is unable to enhance TGF-beta2 signaling, determining that the cytoplasmic domain is essential for some functions of the type III receptor. The type III receptor functions by selectively binding the autophosphorylated type II receptor via its cytoplasmic domain, thus promoting the preferential formation of a complex between the autophosphorylated type II receptor and the type I receptor and then dissociating from this active signaling complex. These studies, for the first time, elucidate important functional roles of the cytoplasmic domain of the type III receptor and demonstrate that these roles are essential for regulating TGF-beta signaling.