Previous research has established that student learning is influenced by how accurately teachers perceive student academic ability. But studies rarely investigate the degree to which inaccuracies in teacher perceptions exacerbate demographic inequality in academic ability. Using a sample of almost 14,000 children from the Early Childhood Longitudinal Study, Kindergarten Cohort, we found that children whose literacy skills are overestimated by their teachers typically gain more literacy skills during kindergarten. Conversely, children whose skills are underestimated learn less. It is important to note that the skills of socioeconomically disadvantaged children are on average underestimated. As a result, inequalities in kindergarten literacy development stem in part from the links between teacher misperceptions and student background. We also explored the extent to which these relationships operate through practices associated with ability grouping. We found instructional grouping to be a weak facilitator of the link between teacher perceptions and student learning, suggesting the need for further research that identifies the social and structural classroom characteristics that link teacher perceptual accuracy to student learning.