Hepatocyte growth factor–regulated tyrosine kinase substrate that is encoded by Hgs promotes degradation of ubiquitinated signaling molecule in the early endosome. We previously reported that a targeted mutation in Hgs results in embryonic lethality soon after gastrulation in the mouse. Here, we report that downstream target genes for BMP signaling were highly down-regulated in the Hgs mutant embryos. We also showed that Hgs is required for phosphorylation of SMAD1/5/8 and TAK1/p38 to transduce BMP signaling. Furthermore, we found that HGS functions to localize TAK1 in early endosome for its activation. These results suggest that HGS is critical to localize TAK1 to early endosome for transducing BMP signaling for proper development. Our data revealed a new mechanism to modify BMP signaling by Hgs during early mouse development. Developmental Dynamics 240:2474–2481, 2011. © 2011 Wiley-Liss, Inc.