The caffeine biosynthetic pathway is of considerable importance for the beverage and pharmaceutical industries which produces two blockbuster products: theobromine and caffeine. The major biochemistry in caffeine biosynthesis starts from the initial substrate of xanthosine and ends with the final product caffeine, with theobromine serving as an intermediate. The key enzyme, S-adenosyl-l-methionine (SAM) dependent 3,7-dimethyl-xanthine methyltransferase (DXMT), catalyzes two important methyl transfer steps in caffeine biosynthesis: (1) methylation of N3 of 7-methylxanthine (7mX) to form theobromine (Tb); (2) methylation of N1 of theobromine to form caffeine (Cf). Although DXMT has been structurally characterized recently, our understanding of the detailed catalytic mechanism and role of key catalytic residues is still lacking. In this work, the quantum mechanical/molecular mechanical (QM/MM) MD and free energy simulations are performed to elucidate the catalytic mechanism of the enzyme-catalyzed reactions and to explain experimental observations concerning the activity of this enzyme. The roles of certain active-site residues are studied, and the results of computer simulation seem to suggest that a histidine residue (His160) at the active site of DXMT may act as a general base/acid catalyst during the methyl transfer process.