diff --git a/xls/contrib/xlscc/continuations.cc b/xls/contrib/xlscc/continuations.cc
index 9b242c1efb..9b6d4d258d 100644
--- a/xls/contrib/xlscc/continuations.cc
+++ b/xls/contrib/xlscc/continuations.cc
@@ -280,14 +280,18 @@ OptimizationContext::GetSourcesSetTreeNodeInfoForFunction(
 
 absl::StatusOr<bool> OptimizationContext::CheckNodeSourcesInSet(
     xls::FunctionBase* in_function, xls::Node* node,
-    absl::flat_hash_set<const xls::Param*> sources_set) {
+    absl::flat_hash_set<const xls::Param*> sources_set,
+    bool allow_empty_sources_result) {
   // Save lazy node analysis for each function for efficiency
   XLS_ASSIGN_OR_RETURN(SourcesSetNodeInfo * info,
                        GetSourcesSetNodeInfoForFunction(in_function));
 
   ParamSet param_sources = info->GetSingleInfoForNode(node);
 
-  // No param sources will return true
+  if (param_sources.empty()) {
+    return allow_empty_sources_result;
+  }
+
   bool all_in_set = true;
   for (const xls::Param* param : param_sources) {
     CHECK_EQ(param->function_base(), in_function);
@@ -2090,10 +2094,14 @@ absl::Status Translator::MarkDirectIns(GeneratedFunction& func,
         continue;
       }
 
+      // Don't count things that don't actually use any direct-ins as direct-in,
+      // for example literals. Allow literal substitution pass to prevent these
+      // from being stored in state elements.
       XLS_ASSIGN_OR_RETURN(
           continuation_out.direct_in,
           context.CheckNodeSourcesInSet(
-              slice.function, continuation_out.output_node, direct_in_sources));
+              slice.function, continuation_out.output_node, direct_in_sources,
+              /*allow_empty_sources_result=*/false));
     }
 
     first_slice = false;
diff --git a/xls/contrib/xlscc/generate_fsm.cc b/xls/contrib/xlscc/generate_fsm.cc
index 1e2d9b7f57..0930292d3f 100644
--- a/xls/contrib/xlscc/generate_fsm.cc
+++ b/xls/contrib/xlscc/generate_fsm.cc
@@ -539,6 +539,9 @@ absl::Status NewFSMGenerator::LayoutValuesToSaveForNewFSMStates(
       if (key.value->direct_in) {
         continue;
       }
+      if (key.value->literal.has_value()) {
+        continue;
+      }
       state.values_to_save.insert(key.value);
     }
   }
diff --git a/xls/contrib/xlscc/translator_types.h b/xls/contrib/xlscc/translator_types.h
index 277a5752f6..d673d4545e 100644
--- a/xls/contrib/xlscc/translator_types.h
+++ b/xls/contrib/xlscc/translator_types.h
@@ -1304,7 +1304,8 @@ class OptimizationContext {
 
   absl::StatusOr<bool> CheckNodeSourcesInSet(
       xls::FunctionBase* in_function, xls::Node* node,
-      absl::flat_hash_set<const xls::Param*> sources_set);
+      absl::flat_hash_set<const xls::Param*> sources_set,
+      bool allow_empty_sources_result = true);
 
  private:
   absl::flat_hash_map<xls::FunctionBase*, std::unique_ptr<SourcesSetNodeInfo>>
diff --git a/xls/contrib/xlscc/unit_tests/continuations_test.cc b/xls/contrib/xlscc/unit_tests/continuations_test.cc
index 1d9239864a..0b9903e57d 100644
--- a/xls/contrib/xlscc/unit_tests/continuations_test.cc
+++ b/xls/contrib/xlscc/unit_tests/continuations_test.cc
@@ -1060,9 +1060,9 @@ TEST_F(ContinuationsTest, PipelinedLoopBackwardsPropagation) {
 
   EXPECT_EQ(SliceInputsDeclCount(third_slice, "i"), 2);
   EXPECT_EQ(SliceInputsDeclCount(third_slice, "a"), 2);
-  EXPECT_TRUE(SliceInputsDecl(third_slice, "a", /*direct_in=*/true,
+  EXPECT_TRUE(SliceInputsDecl(third_slice, "a", /*direct_in=*/false,
                               /*is_feedback=*/false, /*func=*/func));
-  EXPECT_TRUE(SliceInputsDecl(third_slice, "i", /*direct_in=*/true,
+  EXPECT_TRUE(SliceInputsDecl(third_slice, "i", /*direct_in=*/false,
                               /*is_feedback=*/false, /*func=*/func));
   EXPECT_TRUE(SliceInputsDecl(third_slice, "a", /*direct_in=*/false,
                               /*is_feedback=*/true, /*func=*/func));
@@ -1322,9 +1322,9 @@ TEST_F(ContinuationsTest, PipelinedLoopNothingOutside) {
   ++slice_it;
   const xlscc::GeneratedFunctionSlice& third_slice = *slice_it;
 
-  EXPECT_TRUE(SliceOutputsDecl(first_slice, "a", /*direct_in*/ true));
-  EXPECT_TRUE(SliceOutputsDecl(first_slice, "i", /*direct_in*/ true));
-  EXPECT_TRUE(SliceOutputsDecl(first_slice, "c", /*direct_in*/ true));
+  EXPECT_TRUE(SliceOutputsDecl(first_slice, "a", /*direct_in*/ false));
+  EXPECT_TRUE(SliceOutputsDecl(first_slice, "i", /*direct_in*/ false));
+  EXPECT_TRUE(SliceOutputsDecl(first_slice, "c", /*direct_in*/ false));
 
   EXPECT_FALSE(SliceInputsDecl(second_slice, "i"));
   EXPECT_FALSE(SliceInputsDecl(second_slice, "a"));
@@ -2131,8 +2131,8 @@ TEST_F(ContinuationsTest, PipelinedLoopBackwardsPropagationInSubroutine) {
   const xlscc::GeneratedFunctionSlice& fourth_slice = *slice_it;
 
   EXPECT_TRUE(SliceOutputsDecl(second_slice, "ctrl"));
-  EXPECT_TRUE(SliceOutputsDecl(second_slice, "a", /*direct_in=*/true));
-  EXPECT_TRUE(SliceOutputsDecl(second_slice, "i", /*direct_in=*/true));
+  EXPECT_TRUE(SliceOutputsDecl(second_slice, "a", /*direct_in=*/false));
+  EXPECT_TRUE(SliceOutputsDecl(second_slice, "i", /*direct_in=*/false));
 
   EXPECT_EQ(SliceInputsDeclCount(third_slice, "i"), 2);
   EXPECT_EQ(SliceInputsDeclCount(third_slice, "a"), 2);
@@ -2420,15 +2420,12 @@ TEST_F(ContinuationsTest, ContinuationLiteralDecomposed) {
   ++slice_it;
   const xlscc::GeneratedFunctionSlice& second_slice = *slice_it;
 
-  // TODO(seanhaskell): Calling literals direct-in is stopped them from being
-  // decomposed. This makes loops less efficient
-
-  EXPECT_TRUE(SliceInputsDecl(second_slice, "x", /*direct_in=*/true,
+  EXPECT_TRUE(SliceInputsDecl(second_slice, "x", /*direct_in=*/false,
                               /*is_feedback=*/false, /*func=*/func,
-                              /*decl_index=*/-1));
+                              /*decl_index=*/0));
   EXPECT_TRUE(SliceInputsDecl(second_slice, "x", /*direct_in=*/false,
                               /*is_feedback=*/true, /*func=*/func,
-                              /*decl_index=*/-1));
+                              /*decl_index=*/0));
 }
 
 TEST_F(ContinuationsTest, StaticThisDecomposed) {