Phenotype-driven recessive genetic screens in diploid organisms require a strategy to render the mutation homozygous. Although homozygous mutant mice can be generated by breeding, a reliable method to make homozygous mutations in cultured cells has not been available, limiting recessive screens in culture. Cultured embryonic stem (ES) cells provide access to all of the genes required to elaborate the fundamental components and physiological systems of a mammalian cell. Here we have exploited the high rate of mitotic recombination in Bloom's syndrome protein (Blm)-deficient ES cells to generate a genome-wide library of homozygous mutant cells from heterozygous mutations induced with a revertible gene trap retrovirus. We have screened this library for cells with defects in DNA mismatch repair (MMR), a system that detects and repairs base-base mismatches. We demonstrate the recovery of cells with homozygous mutations in known and novel MMR genes. We identified Dnmt1(ref. 5) as a novel MMR gene and confirmed that Dnmt1-deficient ES cells exhibit micro-satellite instability, providing a mechanistic explanation for the role of Dnmt1 in cancer. The combination of insertional mutagenesis in Blm-deficient ES cells establishes a new approach for phenotype-based recessive genetic screens in ES cells.