It means Postecoglou won’t be going to the World Cup in Russia next year and misses the opportunity to become the only coach to lead the Socceroos at two World Cups.
He announced his decision at a press conference on Wednesday morning alongside FFA boss David Gallop.
Postecoglou admitted: "It's been the toughest decision."
"After a great deal of thought and soul searching I've decided that the journey for me ends as Socceroos coach," Postecoglou said at a media conference in Sydney on Wednesday.
"As I've said many times, it's been the biggest privilege of my life and it's probably not the ending I'd envisaged when we started - but at the same time knowing that it's the right time for me and the right decision."
Postecoglou thanked former and current FFA presidents Frank and Steven Lowy and federation CEO David Gallop for their support.
"It's a tremendous responsibility to coach your own nation and as an Australian I know how important it was that I was successful in terms of what we needed to achieve over the last four years," he said.
There has been much speculation over what the coach would do ahead of the 2018 tournament after he refused to confirm he would lead the Socceroos to Russia.
Postecoglou met with FFA chairman Steven Lowy and chief executive Gallop in Sydney ahead of the FFA Cup final to begin talks on Tuesday.
Lowy and Gallop were eager to retain Postecoglou in the job after he had led Australia to the 2018 FIFA World Cup with a 3-1 win last week over Honduras, concluding a marathon 22-match qualification process.
But the 52-year-old had hinted at grievances in the role and that he could walk before next year's tournament in Russia.