diff --git a/launch/src/main/scala/xsbt/boot/Configuration.scala b/launch/src/main/scala/xsbt/boot/Configuration.scala
index 5233b14e3..651d80033 100644
--- a/launch/src/main/scala/xsbt/boot/Configuration.scala
+++ b/launch/src/main/scala/xsbt/boot/Configuration.scala
@@ -47,9 +47,10 @@ object Configuration
 	}
 	def configurationFromFile(path: String, baseDirectory: File): URL =
 	{
+		val pathURI = filePathURI(path)
 		def resolve(against: URI): Option[URL] =
 		{
-			val resolved = against.resolve(path)
+			val resolved = against.resolve(pathURI) // variant that accepts String doesn't properly escape (#725)
 			val exists = try { (new File(resolved)).exists } catch { case _: IllegalArgumentException => false }
 			if(exists) Some(resolved.toURL) else None
 		}
@@ -111,8 +112,11 @@ object Configuration
 		Option(props.getProperty(SbtVersionProperty))
 	}
 
-	def resolveAgainst(baseDirectory: File): List[URI] = (baseDirectory toURI) :: (new File(System.getProperty("user.home")) toURI) ::
-		toDirectory(classLocation(getClass).toURI) :: Nil
+	def resolveAgainst(baseDirectory: File): List[URI] = 
+		directoryURI(baseDirectory) ::
+		directoryURI(new File(System.getProperty("user.home"))) ::
+		toDirectory(classLocation(getClass).toURI) ::
+		Nil
 
 	def classLocation(cl: Class[_]): URL =
 	{
@@ -120,12 +124,26 @@ object Configuration
 		if(codeSource == null) error("No class location for " + cl)
 		else codeSource.getLocation
 	}
+	// single-arg constructor doesn't properly escape
+	def filePathURI(path: String): URI = {
+		val f = new File(path)
+		new URI(if(f.isAbsolute) "file" else null, path, null)
+	}
+	def directoryURI(dir: File): URI = directoryURI(dir.toURI)
+	def directoryURI(uri: URI): URI = 
+	{
+		assert(uri.isAbsolute)
+		val str = uri.toASCIIString
+		val dirStr = if(str.endsWith("/")) str else str + "/"
+		(new URI(dirStr)).normalize
+	}
+
 	def toDirectory(uri: URI): URI =
 		try
 		{
 			val file = new File(uri)
 			val newFile = if(file.isFile) file.getParentFile else file
-			newFile.toURI
+			directoryURI(newFile)
 		}
 		catch { case _: Exception => uri }
 	private[this] def neNull: AnyRef => Boolean = _ ne null
diff --git a/launch/src/test/scala/URITests.scala b/launch/src/test/scala/URITests.scala
new file mode 100644
index 000000000..75a91e6ed
--- /dev/null
+++ b/launch/src/test/scala/URITests.scala
@@ -0,0 +1,43 @@
+package xsbt.boot
+
+import org.scalacheck._
+import Prop._
+import Configuration._
+import java.io.File
+import java.net.URI
+
+object URITests extends Properties("URI Tests")
+{
+	val FileProtocol = "file"
+	property("directoryURI adds trailing slash") = secure {
+		val dirURI = directoryURI(new File("/a/b/c"))
+		val directURI = filePathURI("/a/b/c/")
+		dirURI == directURI
+	}
+	property("directoryURI preserves trailing slash") = secure {
+		directoryURI(new File("/a/b/c/")) == filePathURI("/a/b/c/")
+	}
+
+	property("filePathURI encodes spaces") = secure {
+		val decoded = "has spaces"
+		val encoded = "has%20spaces"
+		val fpURI = filePathURI(decoded)
+		val directURI = new URI(encoded)
+		s"filePathURI: $fpURI" |:
+		s"direct URI: $directURI" |:
+		s"getPath: ${fpURI.getPath}" |:
+		s"getRawPath: ${fpURI.getRawPath}" |:
+		(fpURI == directURI) &&
+		(fpURI.getPath == decoded) &&
+		(fpURI.getRawPath == encoded)
+	}
+
+	property("filePathURI and File.toURI agree for absolute file") =  secure {
+		val s = "/a/b'/has spaces"
+		val viaPath = filePathURI(s)
+		val viaFile = (new File(s)).toURI
+		s"via path: $viaPath" |:
+		s"via file: $viaFile" |:
+		(viaPath == viaFile)
+	}
+}
\ No newline at end of file
diff --git a/util/io/src/main/scala/sbt/IO.scala b/util/io/src/main/scala/sbt/IO.scala
index 06947bfae..85251c520 100644
--- a/util/io/src/main/scala/sbt/IO.scala
+++ b/util/io/src/main/scala/sbt/IO.scala
@@ -724,7 +724,9 @@ object IO
 		(new URI(dirStr)).normalize
 	}
 	/** Converts the given File to a URI.  If the File is relative, the URI is relative, unlike File.toURI*/
-	def toURI(f: File): URI  =  if(f.isAbsolute) f.toURI else new URI(normalizeName(f.getPath))
+	def toURI(f: File): URI  =  
+		// need to use the three argument URI constructor because the single argument version doesn't encode
+		if(f.isAbsolute) f.toURI else new URI(null, normalizeName(f.getPath), null)
 	def resolve(base: File, f: File): File  =
 	{
 		assertAbsolute(base)