OBJECTIVE: To explore the nature of functional impairment in older people with diabetes. RESEARCH DESIGN AND METHODS: A population-based case-control study with detailed assessment of diabetes and functional status was undertaken. RESULTS: Altogether, 403 case subjects and 403 matched control subjects were studied (median age 75 years, 51% female). Subjects with diabetes had more comorbidities than control subjects (mean 2.5 vs. 1.9, P < 0.0001) and were more likely to have severe functional impairment (4 vs. 1%, Barthel score <5, P < 0.001). Health status pertaining to physical function was reduced in case subjects (SF36 60 vs. 40, P < 0.0001). In a multivariate model controlling for age, hypertension, cerebrovascular disease, chronic obstructive pulmonary disease, cancer, osteoarthritis, and dementia, diabetes remained significantly associated with mobility limitation (odds ratio 2.1, P < 0.001). CONCLUSIONS: Older people with diabetes have considerable functional impairment associated with reduced health status. This population may benefit from comprehensive geriatric assessment and tailored diabetes management.