Transcripts originating from the intergenic spacer (IGS) that separates rRNA genes (rDNA) have been known for two decades; their biological role, however, is largely unknown. Here we show that IGS transcripts are required for establishing and maintaining a specific heterochromatic configuration at the promoter of a subset of rDNA arrays. The mechanism of action appears to be mediated through the interaction of TIP5, the large subunit of the chromatin remodeling complex NoRC, with 150-300 nucleotide RNAs that are complementary in sequence to the rDNA promoter. Mutations that abrogate RNA binding of TIP5 impair the association of NoRC with rDNA and fail to promote H3K9&H4K20 methylation and HP1 recruitment. Knockdown of IGS transcripts abolishes the nucleolar localization of NoRC, decreases DNA methylation, and enhances rDNA transcription. The results reveal an important contribution of processed IGS transcripts in chromatin structure and epigenetic control of the rDNA locus.