Abstract Background The Hedgehog (Hh) signaling pathway is important for the development of a variety of tissues in both vertebrates and invertebrates. For example, in developing nervous systems Hh signaling is required for the normal differentiation of neural progenitors into mature neurons. The molecular signaling mechanism underlying the function of Hh is not fully understood. In Drosophila, Ihog (Interference hedgehog) and Boi (Brother of Ihog) are related transmembrane proteins of the immunoglobulin superfamily (IgSF) with orthologs in vertebrates. Members of this IgSF subfamily have been shown to bind Hh and promote pathway activation but their exact role in the Hh signaling pathway has remained elusive. To better understand this role in vivo, we generated loss-of-function mutations of the ihog and boi genes, and investigated their effects in developing eye and wing imaginal discs. Results While mutation of either ihog or boi alone had no discernible effect on imaginal tissues, cells in the developing eye disc that were mutant for both ihog and boi failed to activate the Hh pathway, causing severe disruption of photoreceptor differentiation in the retina. In the anterior compartment of the developing wing disc, where different concentrations of the Hh morphogen elicit distinct cellular responses, cells mutant for both ihog and boi failed to activate responses at either high or low thresholds of Hh signaling. They also lost their affinity for neighboring cells and aberrantly sorted out from the anterior compartment of the wing disc into posterior territory. We found that ihog and boi are required for the accumulation of the essential Hh signaling mediator Smoothened (Smo) in Hh-responsive cells, providing evidence that Ihog and Boi act upstream of Smo in the Hh signaling pathway. Conclusions The consequences of boi;ihog mutations for eye development, neural differentiation and wing patterning phenocopy those of smo mutations and uncover an essential role for Ihog and Boi in the Hh signaling pathway.