VIP21/caveolin is localized to both caveolae and apical transport vesicles and presumably cycles between the cell surface and the Golgi complex. We have studied the lipid interactions of this protein by reconstituting Escherichia coli-expressed VIP21/caveolin into liposomes. Surprisingly, the protein reconstituted only with cholesterol-containing lipid mixtures. We demonstrated that the protein binds at least 1 mol of cholesterol per mole of protein and that this binding promotes formation of protein oligomers. These findings suggest that VIP21/caveolin, through its cholesterol-binding properties, serves a specific function in microdomain formation during membrane trafficking.