I ntestinal epithelial cells express a low level of HLA class II molecules constitutively, with elevated levels seen in the setting of mucosal inflammation including inflammatory bowel disease. The ability of intestinal epithelial cells to act as antigen presenting cells for alphabeta CD4(+) T lymphocytes was examined through a molecular analysis of the HLA class II antigen processing pathway. We have shown that intestinal epithelial cells contain abundant constitutive levels of the cathepsin proteases proven to function in HLA class II mediated antigen presentation. Activation of these cells by gamma-IFN induced the expression of invariant chain and HLA-DM alphabeta, thus facilitating the formation of compact, SDS-stable HLA- DR alphabeta heterodimers. Using HLA-DR-restricted T cells and retroviral mediated gene transfer of HLA-DR alleles into the intestinal epithelial cell lines HT-29 and T84, we demonstrated efficient antigen processing and presentation to CD4(+) T lymphocytes in the presence of the proinflammatory cytokine gamma-IFN. The class II processing pathway and presentation in the presence of gamma-IFN was indistinguishable from that observed with a conventional antigen presenting cell. Antigen processing also occurred in intestinal epithelial cells in the absence of gamma-IFN, and in contrast to that seen after stimulation with gamma-IFN, required high concentration of antigen and was not inhibited by the protease inhibitor leupeptin. These data suggest the use of two distinct pathways of HLA class II antigen processing in enterocytes with differential immunomodulatory properties in the presence or absence of mucosal inflammation.