In adult skin, stem cells in the hair follicle bulge cyclically regenerate the follicle, whereas a distinct stem cell population maintains the epidermis. The degree to which all bulge cells have equal regenerative potential is not known. We found that Sonic hedgehog (Shh) from neurons signals to a population of cells in the telogen bulge marked by the Hedgehog response gene Gli1. Gli1-expressing bulge cells function as multipotent stem cells in their native environment and repeatedly regenerate the anagen follicle. Shh-responding perineural bulge cells incorporate into healing skin wounds where, notably, they can change their lineage into epidermal stem cells. The perineural niche (including Shh) is dispensable for follicle contributions to acute wound healing and skin homeostasis, but is necessary to maintain bulge cells capable of becoming epidermal stem cells. Thus, nerves cultivate a microenvironment where Shh creates a molecularly and phenotypically distinct population of hair follicle stem cells.