When rat liver cytosol, possessing sterol carrier protein (SCP) activity was incubated with [3H]-squalene-phospholipid liposomes, cofactors, and rat liver microsomes, squalene from the liposomes was converted into sterols. When cytosol was omitted from the incubation mixture, only insignificant amounts of sterols were produced. Liposomes of squalene with either phosphatidylserine or phosphatidylcholine were equally effective as substrates. The liposomes were stable at 4 degrees C for 3 weeks. The ratio of squalene to phospholipid in the liposomes could be varied over a range of 0.004 to 0.23. Multilamellar liposomes with squalene were not effective as a substrate for the conversion of squalene to sterols. The mechanism for transfer of squalene from the liposomes to the enzymes appears to be initial binding of liposomes to microsomes, with subsequent transfer of the substrate to the enzyme site by the SCP in the cytosol. Microsome-liposome complexes prepared in the absence or presence of cytosol are effective in converting squalene to sterols only if cytosol is added again, indicating that cytosol is not required for the binding of liposomes to microsomes.