Vascular endothelial growth factor (VEGF) guides the path of new vessel sprouts by inducing VEGF receptor-2 activity in the sprout tip. In the stalk cells of the sprout, VEGF receptor-2 activity is downregulated. Here, we show that VEGF receptor-2 in stalk cells is dephosphorylated by the endothelium-specific vascular endothelial-phosphotyrosine phosphatase (VE-PTP). VE-PTP acts on VEGF receptor-2 located in endothelial junctions indirectly, via the Angiopoietin-1 receptor Tie2. VE-PTP inactivation in mouse embryoid bodies leads to excess VEGF receptor-2 activity in stalk cells, increased tyrosine phosphorylation of VE-cadherin and loss of cell polarity and lumen formation. Vessels in ve-ptp(-/-) teratomas also show increased VEGF receptor-2 activity and loss of endothelial polarization. Moreover, the zebrafish VE-PTP orthologue ptp-rb is essential for polarization and lumen formation in intersomitic vessels. We conclude that the role of Tie2 in maintenance of vascular quiescence involves VE-PTP-dependent dephosphorylation of VEGF receptor-2, and that VEGF receptor-2 activity regulates VE-cadherin tyrosine phosphorylation, endothelial cell polarity and lumen formation.