diff --git a/crates/core/src/contract/executor/runtime.rs b/crates/core/src/contract/executor/runtime.rs
index dcb5e9927..98123cf40 100644
--- a/crates/core/src/contract/executor/runtime.rs
+++ b/crates/core/src/contract/executor/runtime.rs
@@ -300,6 +300,12 @@ impl ContractExecutor for Executor<Runtime> {
                 if updated_state.as_ref() == current_state.as_ref() {
                     Ok(UpsertResult::NoChange)
                 } else {
+                    // Persist the updated state before returning
+                    self.state_store
+                        .update(&key, updated_state.clone())
+                        .await
+                        .map_err(ExecutorError::other)?;
+
                     // todo: forward delta like we are doing with puts
                     tracing::warn!("Delta updates are not yet supported");
                     Ok(UpsertResult::Updated(updated_state))
diff --git a/crates/core/tests/operations.rs b/crates/core/tests/operations.rs
index 10aa328dd..ad3597a64 100644
--- a/crates/core/tests/operations.rs
+++ b/crates/core/tests/operations.rs
@@ -537,6 +537,262 @@ async fn test_update_contract() -> TestResult {
     Ok(())
 }
 
+/// Test that a second PUT to an already cached contract persists the merged state.
+/// This is a regression test for issue #1995.
+#[test_log::test(tokio::test(flavor = "multi_thread", worker_threads = 4))]
+async fn test_put_merge_persists_state() -> TestResult {
+    // Load test contract
+    const TEST_CONTRACT: &str = "test-contract-integration";
+    let contract = test_utils::load_contract(TEST_CONTRACT, vec![].into())?;
+    let contract_key = contract.key();
+
+    // Create initial state with empty todo list
+    let initial_state = test_utils::create_empty_todo_list();
+    let initial_wrapped_state = WrappedState::from(initial_state);
+
+    // Create network sockets
+    let network_socket_b = TcpListener::bind("127.0.0.1:0")?;
+    let ws_api_port_socket_a = TcpListener::bind("127.0.0.1:0")?;
+    let ws_api_port_socket_b = TcpListener::bind("127.0.0.1:0")?;
+
+    // Configure gateway node B
+    let (config_b, preset_cfg_b, config_b_gw) = {
+        let (cfg, preset) = base_node_test_config(
+            true,
+            vec![],
+            Some(network_socket_b.local_addr()?.port()),
+            ws_api_port_socket_b.local_addr()?.port(),
+        )
+        .await?;
+        let public_port = cfg.network_api.public_port.unwrap();
+        let path = preset.temp_dir.path().to_path_buf();
+        (cfg, preset, gw_config(public_port, &path)?)
+    };
+    let ws_api_port_peer_b = config_b.ws_api.ws_api_port.unwrap();
+
+    // Configure peer node A
+    let (config_a, preset_cfg_a) = base_node_test_config(
+        false,
+        vec![serde_json::to_string(&config_b_gw)?],
+        None,
+        ws_api_port_socket_a.local_addr()?.port(),
+    )
+    .await?;
+    let ws_api_port_peer_a = config_a.ws_api.ws_api_port.unwrap();
+
+    tracing::info!("Node A data dir: {:?}", preset_cfg_a.temp_dir.path());
+    tracing::info!("Node B (gw) data dir: {:?}", preset_cfg_b.temp_dir.path());
+
+    // Start node A (peer)
+    std::mem::drop(ws_api_port_socket_a);
+    let node_a = async move {
+        let _span = with_peer_id("peer-a");
+        tracing::info!("Starting peer A node");
+        let config = config_a.build().await?;
+        let node = NodeConfig::new(config.clone())
+            .await?
+            .build(serve_gateway(config.ws_api).await)
+            .await?;
+        tracing::info!("Peer A node running");
+        node.run().await
+    }
+    .boxed_local();
+
+    // Start node B (gateway)
+    std::mem::drop(network_socket_b);
+    std::mem::drop(ws_api_port_socket_b);
+    let node_b = async {
+        let _span = with_peer_id("gateway");
+        tracing::info!("Starting gateway node");
+        let config = config_b.build().await?;
+        let node = NodeConfig::new(config.clone())
+            .await?
+            .build(serve_gateway(config.ws_api).await)
+            .await?;
+        tracing::info!("Gateway node running");
+        node.run().await
+    }
+    .boxed_local();
+
+    let test = tokio::time::timeout(Duration::from_secs(180), async {
+        // Wait for nodes to start up
+        tracing::info!("Waiting for nodes to start up...");
+        tokio::time::sleep(Duration::from_secs(15)).await;
+        tracing::info!("Nodes should be ready, proceeding with test...");
+
+        // Connect to node A's websocket API
+        let uri = format!(
+            "ws://127.0.0.1:{ws_api_port_peer_a}/v1/contract/command?encodingProtocol=native"
+        );
+        let (stream, _) = connect_async(&uri).await?;
+        let mut client_api_a = WebApi::start(stream);
+
+        // First PUT: Store initial contract state
+        tracing::info!("Sending first PUT with initial state...");
+        make_put(
+            &mut client_api_a,
+            initial_wrapped_state.clone(),
+            contract.clone(),
+            false,
+        )
+        .await?;
+
+        // Wait for first put response
+        let resp = tokio::time::timeout(Duration::from_secs(120), client_api_a.recv()).await;
+        match resp {
+            Ok(Ok(HostResponse::ContractResponse(ContractResponse::PutResponse { key }))) => {
+                tracing::info!("First PUT successful for contract: {}", key);
+                assert_eq!(key, contract_key);
+            }
+            Ok(Ok(other)) => {
+                bail!("Unexpected response for first PUT: {:?}", other);
+            }
+            Ok(Err(e)) => {
+                bail!("Error receiving first PUT response: {}", e);
+            }
+            Err(_) => {
+                bail!("Timeout waiting for first PUT response");
+            }
+        }
+
+        // Wait a bit to ensure state is fully cached
+        tokio::time::sleep(Duration::from_secs(2)).await;
+
+        // Create updated state with more data (simulating a state merge)
+        let mut updated_todo_list: test_utils::TodoList =
+            serde_json::from_slice(initial_wrapped_state.as_ref()).unwrap();
+
+        // Add multiple tasks to make the state larger
+        for i in 1..=5 {
+            updated_todo_list.tasks.push(test_utils::Task {
+                id: i,
+                title: format!("Task {}", i),
+                description: format!("Description for task {}", i),
+                completed: false,
+                priority: i as u8,
+            });
+        }
+
+        let updated_bytes = serde_json::to_vec(&updated_todo_list).unwrap();
+        let updated_wrapped_state = WrappedState::from(updated_bytes);
+
+        tracing::info!(
+            "Initial state size: {} bytes, Updated state size: {} bytes",
+            initial_wrapped_state.as_ref().len(),
+            updated_wrapped_state.as_ref().len()
+        );
+
+        // Second PUT: Update the already-cached contract with new state
+        // This tests the bug fix - the merged state should be persisted
+        tracing::info!("Sending second PUT with updated state...");
+        make_put(
+            &mut client_api_a,
+            updated_wrapped_state.clone(),
+            contract.clone(),
+            false,
+        )
+        .await?;
+
+        // Wait for second put response
+        let resp = tokio::time::timeout(Duration::from_secs(120), client_api_a.recv()).await;
+        match resp {
+            Ok(Ok(HostResponse::ContractResponse(ContractResponse::PutResponse { key }))) => {
+                tracing::info!("Second PUT successful for contract: {}", key);
+                assert_eq!(key, contract_key);
+            }
+            Ok(Ok(other)) => {
+                bail!("Unexpected response for second PUT: {:?}", other);
+            }
+            Ok(Err(e)) => {
+                bail!("Error receiving second PUT response: {}", e);
+            }
+            Err(_) => {
+                bail!("Timeout waiting for second PUT response");
+            }
+        }
+
+        // Wait a bit to ensure the merge and persistence completes
+        tokio::time::sleep(Duration::from_secs(2)).await;
+
+        // The key test: GET from gateway to verify it persisted the merged state
+        // This is the bug from issue #1995 - gateway receives PUT for already-cached
+        // contract, merges state, but doesn't persist it
+        let uri = format!(
+            "ws://127.0.0.1:{ws_api_port_peer_b}/v1/contract/command?encodingProtocol=native"
+        );
+        let (stream, _) = connect_async(&uri).await?;
+        let mut client_api_gateway = WebApi::start(stream);
+
+        tracing::info!("Getting contract from gateway to verify merged state was persisted...");
+        let (response_contract_gw, response_state_gw) = get_contract(
+            &mut client_api_gateway,
+            contract_key,
+            &preset_cfg_b.temp_dir,
+        )
+        .await?;
+
+        assert_eq!(response_contract_gw.key(), contract_key);
+
+        let response_todo_list_gw: test_utils::TodoList =
+            serde_json::from_slice(response_state_gw.as_ref())
+                .expect("Failed to deserialize state from gateway");
+
+        tracing::info!(
+            "Gateway returned state with {} tasks, size {} bytes",
+            response_todo_list_gw.tasks.len(),
+            response_state_gw.as_ref().len()
+        );
+
+        // This is the key assertion for issue #1995:
+        // Gateway received a PUT for an already-cached contract, merged the states,
+        // and should have PERSISTED the merged state (not just computed it)
+        assert_eq!(
+            response_todo_list_gw.tasks.len(),
+            5,
+            "Gateway should return merged state with 5 tasks (issue #1995: merged state must be persisted)"
+        );
+
+        // Verify the state size matches as additional confirmation
+        assert_eq!(
+            response_state_gw.as_ref().len(),
+            updated_wrapped_state.as_ref().len(),
+            "Gateway state size should match the updated state"
+        );
+
+        tracing::info!(
+            "✓ Test passed: Gateway correctly persisted merged state after second PUT (issue #1995 fixed)"
+        );
+
+        // Cleanup
+        client_api_a
+            .send(ClientRequest::Disconnect { cause: None })
+            .await?;
+        client_api_gateway
+            .send(ClientRequest::Disconnect { cause: None })
+            .await?;
+        tokio::time::sleep(Duration::from_millis(100)).await;
+
+        Ok::<_, anyhow::Error>(())
+    });
+
+    select! {
+        a = node_a => {
+            let Err(a) = a;
+            return Err(anyhow!(a).into());
+        }
+        b = node_b => {
+            let Err(b) = b;
+            return Err(anyhow!(b).into());
+        }
+        r = test => {
+            r??;
+            tokio::time::sleep(Duration::from_secs(3)).await;
+        }
+    }
+
+    Ok(())
+}
+
 // This test is disabled due to race conditions in subscription propagation logic.
 // The test expects multiple clients across different nodes to receive subscription updates,
 // but the PUT caching refactor (commits 2cd337b5-0d432347) changed the subscription semantics.