Biological soil crusts (biocrusts) are widespread in drylands and deserts. At the microhabitat scale, they also host hypolithic communities that live under semitranslucent stones. Both environmental niches experience exposure to extreme conditions such as high UV radiation, desiccation, temperature fluctuations, and resource limitation. However, hypolithic communities are somewhat protected from extremes relative to biocrust communities. Conditions are otherwise similar, so comparing them can answer outstanding questions regarding adaptations to environmental extremes. Using metagenomic sequencing, we assessed the functional potential of dryland soil communities and identified the functional underpinnings of ecological niche differentiation in biocrusts versus hypoliths. We also determined the effect of the anchoring photoautotroph (moss or cyanobacteria). Genes and pathways differing in abundance between biocrusts and hypoliths indicate that biocrust communities adapt to the higher levels of UV radiation, desiccation, and temperature extremes through an increased ability to repair damaged DNA, sense and respond to environmental stimuli, and interact with other community members and the environment. Intracellular competition appears to be crucial to both communities, with biocrust communities using the Type VI Secretion System (T6SS) and hypoliths favoring a diversity of antibiotics. The dominant primary producer had a reduced effect on community functional potential compared with niche, but an abundance of genes related to monosaccharide, amino acid, and osmoprotectant uptake in moss-dominated communities indicates reliance on resources provided to heterotrophs by mosses. Our findings indicate that functional traits in dryland communities are driven by adaptations to extremes and we identify strategies that likely enable survival in dryland ecosystems. IMPORTANCE Biocrusts serve as a keystone element of desert and dryland ecosystems, stabilizing soils, retaining moisture, and serving as a carbon and nitrogen source in oligotrophic environments. Biocrusts cover approximately 12% of the Earth’s terrestrial surface but are threatened by climate change and anthropogenic disturbance. Given their keystone role in ecosystem functioning, loss will have wide-spread consequences. Biocrust microbial constituents must withstand polyextreme environmental conditions including high UV exposure, desiccation, oligotrophic conditions, and temperature fluctuations over short time scales. By comparing biocrust communities with co-occurring hypolithic communities (which inhabit the ventral sides of semitranslucent stones and are buffered from environmental extremes), we identified traits that are likely key adaptations to extreme conditions. These include DNA damage repair, environmental sensing and response, and intracellular competition. Comparison of the two niches, which differ primarily in exposure levels to extreme conditions, makes this system ideal for understanding how functional traits are structured by the environment.