Ubiquitylated developmental membrane signaling proteins are often internalized for endocytic trafficking, through which endosomal sorting complexes required for transport (ESCRT) act sequentially to deliver internalized cargos to lysosomes. The ESCRT function in endocytic sorting is well established; however, it is not fully understood how the sorting machinery itself is regulated. Here, we show that Ubiquitin isopeptidase Y (Ubpy) plays a conserved role in vivo in the homeostasis of an essential ESCRT-0 complex component Hrs. We find that, in the absence of Drosophila Ubpy, multiple membrane proteins that are essential components of important signaling pathways accumulate in enlarged, aberrant endosomes. We further demonstrate that this phenotype results from endocytic pathway defects. We provide evidence that Ubpy interacts with and deubiquitylates Hrs. In Ubpy-null cells, Hrs becomes ubiquitylated and degraded in lysosomes, thus disrupting the integrity of ESCRT sorting machinery. Lastly, we find that signaling proteins are enriched in enlarged endosomes when Hrs activity is abolished. Together, our data support a model in which Ubpy plays a dual role in both cargo deubiquitylation and the ESCRT-0 stability during development.