Mutations in ATP8B1 cause severe inherited liver disease. The disease is characterized by impaired biliary bile salt excretion (cholestasis), but the mechanism whereby impaired ATP8B1 function results in cholestasis is poorly understood. ATP8B1 is a type 4 P-type ATPase and is a flippase for phosphatidylserine. Atp8b1-deficient mice display a dramatic increase in the biliary extraction of cholesterol from the canalicular (apical) membrane of the hepatocyte. Here we studied the hypothesis that disproportionate cholesterol extraction from the canalicular membrane impairs the activity of the bile salt transporter, ABCB11, and as a consequence causes cholestasis. Using single pass liver perfusions, we show that not only ABCB11-mediated transport but also Abcc2-mediated transport were reduced at least 4-fold in Atp8b1 deficiency. We show that canalicular membranes of cholestatic Atp8b1-deficient mice have a dramatically reduced cholesterol to phospholipid ratio, i.e. 0.75 +/- 0.24 versus 2.03 +/- 0.71 for wild type. In vitro depletion of cholesterol from mouse liver plasma membranes using methyl-beta-cyclodextrin demonstrated a near linear relation between cholesterol content of the membranes and ATP-dependent taurocholate transport. Abcc2-mediated transport activity was not affected up to 30% of membrane cholesterol depletion but declined to negligible levels at 70% of membrane cholesterol depletion. These effects were reversible as cholesterol repletion of the liver membranes completely restored Abcb11- and Abcc2-mediated transport. Our data demonstrate that membrane cholesterol content is a critical determinant of ABCB11/ABCC2 transport activity, provide an explanation for the etiology of ATP8B1 disease, and suggest a novel mechanism protecting the canalicular membrane against luminal bile salt overload.