Research suggests that neighborhood environment may influence functional health at an older age. This study examined the association between neighborhood problems and incidence of overall and lower-extremity functional loss. A total of 883 participants in the Alameda County Study who were aged 55 years and older and functionally healthy were questioned in 1994 and 1995 as part of an ongoing cohort study. Participants rated the severity of six neighborhood problems: traffic, noise, crime, trash and litter, lighting, and public transportation. Seventeen percent reported multiple neighborhood problems. Functional loss was measured by self-report of severe difficulty with physical tasks (e.g., climbing stairs, lifting 10 pounds (4.54 kg)). After 1 year, 6.1% developed overall functional loss, and 3.9% developed lower-extremity functional loss. Regression models adjusted for demographic, socioeconomic, health, and behavioral risk factors. Compared with those who reported nonproblem neighborhoods, those who reported multiple-problem neighborhoods were at increased risk of overall functional loss (odds ratio = 2.23, 95% confidence interval: 1.08, 4.60) and lower-extremity functional loss (odds ratio = 3.12, 95% confidence interval: 1.15, 8.51). Neighborhood problems associated with the largest increase in risk were excessive noise, inadequate lighting, and heavy traffic. Older people who reported problematic neighborhood environments had a greater risk of functional deterioration over 1 year compared with those in better neighborhoods.