Transforming growth factor-beta (TGF-beta) inhibits cell cycle progression, in part through up-regulation of gene expression of the p21(WAF1/Cip1) (p21) cell cycle inhibitor. Previously we have reported that the intracellular effectors of TGF-beta, Smad3 and Smad4, functionally cooperate with Sp1 to activate the human p21 promoter in hepatoma HepG2 cells. In this study we show that Smad3 and Smad4 when overexpressed in HaCaT keratinocytes lead to activation of the p21 promoter. Activation requires the binding sites for the ubiquitous transcription factor Sp1 on the proximal promoter. Induction of the endogenous HaCaT p21 gene by TGF-beta1 is further enhanced after overexpression of Smad3 and Smad4, whereas dominant negative mutants of Smad3 and Smad4 and the inhibitory Smad7 all inhibit p21 induction by TGF-beta1 in a dose-dependent manner. We show that Sp1 expressed in the Sp1-deficient Drosophila SL-2 cells binds to the proximal p21 promoter sequences, whereas Smad proteins do not. In support of this finding, we show that DNA-binding domain mutants of Smad3 and Smad4 are capable of transactivating the p21 promoter as efficiently as wild type Smads. Co-expression of Smad3 with Smad4 and Sp1 in SL-2 cells or co-incubation of phosphorylated Smad3, Smad4, and Sp1 in vitro results in enhanced binding of Sp1 to the p21 proximal promoter sequences. We demonstrate that Sp1 physically and directly interacts with Smad2, Smad3, and weakly with Smad4 via their amino-terminal (Mad-Homology 1) domain. Finally, by using GAL4 fusion proteins we show that the glutamine-rich sequences in the transactivation domain of Sp1 contribute to the cooperativity with Smad proteins. In conclusion, Smad proteins play important roles in regulation of the p21 gene by TGF-beta, and the functional cooperation of Smad proteins with Sp1 involves the physical interaction of these two types of transcription factors.