A highly conserved TGF-β signaling pathway is involved in the establishment of the dorsoventral axis of the vertebrate embryo. Specifically, Bone Morphogenetic Proteins (Bmps) pattern ventral tissues of the embryo while inhibitors of Bmps, such as Chordin, Noggin and Follistatin, are implicated in dorsal mesodermal and neural development. We investigated the role of Tolloid, a metalloprotease that can cleave Chordin and increase Bmp activity, in patterning the dorsoventral axis of the zebrafish embryo. Injection of tolloid mRNA into six dorsalized mutants rescued only one of these mutants, mini fin. Through chromosomal mapping, linkage and cDNA sequence analysis of several mini fin alleles, we demonstrate that mini fin encodes the tolloid gene. Characterization of the mini fin mutant phenotype reveals that Mini fin/Tolloid activity is required for patterning ventral tissues of the tail: the ventral fin, and the ventroposterior somites and vasculature. Gene expression studies show that mfn mutants exhibit reduced expression of ventrally restricted markers at the end of gastrulation, suggesting that the loss of ventral tail tissues is caused by a dorsalization occurring at the end of gastrulation. Based on the mini fin mutant phenotype and the expression of tolloid, we propose that Mini fin/Tolloid modifes the Bmp activity gradient at the end of gastrulation, when the ventralmost marginal cells of the embryo are in close proximity to the dorsal Chordin-expressing cells. At this time, unimpeded Chordin may diffuse to the most ventral marginal regions and inhibit high Bmp activity levels. In the presence of Mini fin/Tolloid, however, Chordin activity would be negatively modulated through proteolytic cleavage, thereby increasing Bmp signaling activity. This extracellular mechanism is amplified by an autoregulatory loop for bmp gene expression.