The basal forebrain (BF) is an essential component of the ascending arousal systems and may be a key site through which the orexin (also known as hypocretin) neurons drive arousal and promote the maintenance of normal wakefulness. All orexin neurons also make dynorphin, and nearly all brain regions innervated by the orexin neurons express kappa opiate receptors, the main receptor for dynorphin. This is remarkable because orexin excites target neurons including BF neurons, but dynorphin has inhibitory effects. We identified the sources of dynorphin input to the magnocellular preoptic nucleus and substantia innominata (MCPO/SI) in mice and determined the effects of dynorphin-A on MCPO/SI cholinergic neurons using patch-clamp recordings in brain slices. We found that the orexin neurons are the main source of dynorphin input to the MCPO/SI region, and dynorphin-A inhibits MCPO/SI cholinergic neurons through κ-opioid receptors by (1) activation of a G protein-coupled inwardly rectifying potassium current, (2) inhibition of a voltage-gated Ca2+ current and (3) presynaptic depression of the glutamatergic input to these neurons. The responses both to dynorphin-A and to orexin-A desensitize, but co-application of dynorphin-A and orexin-A produces a sustained response. In addition, the polarity of the response to the co-application depends on the membrane potential of BF neurons; at −40 mV the net effect of the co-application is inhibition by dynorphin-A, whereas at −70 mV the excitatory response to orexin-A prevails. This suggests that depending on their state of activation, BF cholinergic neurons can be excited or inhibited by signals from the orexin neurons.