Smad proteins transduce bone morphogenetic protein (BMP) and transforming growth factor-beta (TGFbeta) signals upon phosphorylation of their C-terminal SXS motif by receptor kinases. The activity of Smad1 in the BMP pathway and Smad2/3 in the TGFbeta pathway is restricted by pathway cross-talk and feedback through protein kinases, including MAPK, CDK2/4, p38MAPK, JNK, and others. These kinases phosphorylate Smads 1-3 at the region that links the N-terminal DNA-binding domain and the C-terminal transcriptional domain. Phosphatases that dephosphorylate the linker region are therefore likely to play an integral part in the regulation of Smad activity. We reported previously that small C-terminal domain phosphatases 1, 2, and 3 (SCP1-3) dephosphorylate Smad1 C-terminal tail, thereby attenuating BMP signaling. Here we provide evidence that SCP1-3 also dephosphorylate the linker regions of Smad1 and Smad2/3 in vitro, in mammalian cells and in Xenopus embryos. Overexpression of SCP 1, 2, or 3 decreased linker phosphorylation of Smads 1, 2 and 3. Moreover, RNA interference-mediated knockdown of SCP1/2 increased the BMP-dependent phosphorylation of the Smad1 linker region as well as the C terminus. In contrast, SCP1/2 knockdown increased the TGFbeta-dependent linker phosphorylation of Smad2/3 but not the C-terminal phosphorylation. Consequently, SCP1/2 knockdown inhibited TGFbeta transcriptional responses, but it enhanced BMP transcriptional responses. Thus, by dephosphorylating Smad2/3 at the linker (inhibitory) but not the C-terminal (activating) site, the SCPs enhance TGFbeta signaling, and by dephosphorylating Smad1 at both sites, the SCPs reset Smad1 to the basal unphosphorylated state.