Proteolytic processing of the amyloid precursor protein (APP) by beta-secretase, beta-site APP cleaving enzyme (BACE1), is the initial step in the production of the amyloid beta (Abeta) peptide, which is involved in the pathogenesis of Alzheimer's disease. The normal cellular function of the prion protein (PrP(C)), the causative agent of the transmissible spongiform encephalopathies such as Creutzfeldt-Jakob disease in humans, remains enigmatic. Because both APP and PrP(C) are subject to proteolytic processing by the same zinc metalloproteases, we tested the involvement of PrP(C) in the proteolytic processing of APP. Cellular overexpression of PrP(C) inhibited the beta-secretase cleavage of APP and reduced Abeta formation. Conversely, depletion of PrP(C) in mouse N2a cells by siRNA led to an increase in Abeta peptides secreted into the medium. In the brains of PrP knockout mice and in the brains from two strains of scrapie-infected mice, Abeta levels were significantly increased. Two mutants of PrP, PG14 and A116V, that are associated with familial human prion diseases failed to inhibit the beta-secretase cleavage of APP. Using constructs of PrP, we show that this regulatory effect of PrP(C) on the beta-secretase cleavage of APP required the localization of PrP(C) to cholesterol-rich lipid rafts and was mediated by the N-terminal polybasic region of PrP(C) via interaction with glycosaminoglycans. In conclusion, this is a mechanism by which the cellular production of the neurotoxic Abeta is regulated by PrP(C) and may have implications for both Alzheimer's and prion diseases.