It has been demonstrated in our previous work that, in the human skin-grafting model, the expression of costimulatory molecule B7H1 (PD-L1) by keratinocytes plays an essential role in inducing local tolerance via activation of IL-10-secreting T cells. This study further analyzes the role of B7H1 in differentiation of type 1 T regulatory (Tr1) cells and explores underlying mechanisms. Mouse fusion protein B7H1-Ig is used, together with immobilized anti-CD3 mAb, to costimulate the purified naive CD4+ T cells. B7H1-Ig-treated CD4+ T cells were found to activate a characteristic Tr1 population possessing a CD4+ CD25− Foxp3− CD45RB low phenotype. These regulatory T cells strongly inhibited the Th1-dominated MLR by secretion of IL-10 and TGF-β. Moreover, B7H1-treated Tr1 cells also resulted in suppressed clinical scores and demyelination when adoptively transferred into mice with experimental allergic encephalomyelitis. Furthermore, analysis of the cytokine profile indicated that there were two differential reaction patterns during the B7H1-Ig-induced Tr1 development. These two patterns were characterized by activation of IFN-γR+ IL-10R− Th1 and IFN-γR+ IL-10R+ Tr1 cells, respectively. Secretion of IFN-γ by Th1 and the expression of IFN-γR on Tr1 were critical for further Tr1 differentiation, as demonstrated by mAb blocking and by analysis in IFN-γ−/− mice. In conclusion, B7H1 is capable of inducing Tr1 differentiation from naive CD4+ T cells by coactivation in an IFN-γ-or Th1-dependent manner. Our study may shed some light upon the clinical usage of B7H1 as a therapeutic reagent for induction of tolerance.