Heterochromatin protein 1 (HP1) is an epigenetic regulator of chromatin structure and genome function in eukaryotes. Despite shared features, most eukaryotes have a minimum of three HP1 homologs with differential localization patterns and functions. Most studies focus on Drosophila HP1a [also known as Su(var)205], and little is known about the properties of HP1b and HP1c. To determine the features of the three HP1 homologs, we performed the first comprehensive comparative analysis of Drosophila HP1 homologs. HP1 differentially homodimerizes and heterodimerizes in vivo and in vitro. HP1b and HP1c, but not HP1a, are localized to both the nucleus and cytoplasm. The C-terminal extension region (CTE) targets HP1c and HP1b to the cytoplasm. Biochemical approaches show that HP1 binds to various interacting partners with different binding affinities. Each HP1 associates differently with RNA polymerase II; a gene reporter assay revealed that HP1a and HP1b, but not HP1c, inhibit transcriptional activity, suggesting that HP1c serves as a positive regulator in transcription. Thus, these studies provide the basic clues pertaining to the molecular mechanism by which HP1 might control cellular processes in a homolog-specific manner.