We propose that one can explain the coexistence in the same range of doping and temperature of gapless Fermi arcs with the metal–insulator crossover of in-plane resistivity in strongly underdoped cuprates in terms of the FL* fractionalized Fermi liquid nature of these systems, and that such coexistence is not due simply to disorder effects in the resistivity. The particle excitations of this FL* system derived from variants of the t-J model are the gapless holon carrying charge with small Fermi momentum proportional to the doping, the gapful spinon carrying spin 1/2, and an emergent gauge field coupling them and the hole as a spinon–holon bound state, or more precisely resonance, due to gauge binding, with a Fermi surface respecting the topological Luttinger theorem. In our proposal, Fermi arcs are determined by the hole resonance, whereas the metal–insulator crossover is dominated by spinon–spinon (with subleading holon–holon) gauge interactions, and this dichotomy is able to explain their coexistence.