The withdrawal came after Shiite politicians held hours of negotiations with al-Sadr, who also agreed to pull out his fighters.
U.S. Col. Brad May told CNN the pullout marks a "breakthrough" in the weeks of skirmishes between American and Shiite forces and Shiite insurgents loyal to al-Sadr.
"In the meantime, the U.S. forces will pull back from the sensitive areas themselves, but we will still be in a position where we can provide the necessary response force in the event that the police should need it," May said.
Fighting continued in Najaf despite a truce offer from al-Sadr last week aimed at ending the two-month-old uprising. Al-Sadr, a critic of the U.S. occupation in Iraq, called for attacks against coalition troops in April after they shut down his newspaper and arrested one of his top aides.
Al-Sadr has also been an outspoken critic of Iraq's new interim government. He has questioned the role of U.N. envoy Lakhdar Brahimi in appointing its leadership and has warned the United Nations of Shiite protests in the face of current policy on Iraq.
The pullout in Najaf came as five more U.S. soldiers and five civilians died in separate attacks in and around Baghdad on Friday.
Witnesses said militants fired a rocket-propelled grenade at the soldiers' Humvee as it traveled along a highway in eastern Baghdad. U.S. troops removed the wounded soldiers from the wreckage near Sadr City, an enclave of al-Sadr's Mehdi Army fighters, the Associated Press reported.
"The cause of the explosion is still under investigation," a military spokesman said.
In another part of Iraq, five men, believed to be foreigners, also died when a roadside bomb hit their car 18 miles north of Baghdad and unknown assailants opening fire on its occupants. An Iraqi security officer told the AP that U.S. Army and Iraqi security forces were investigating the incident.
Friday's attack brings the number of U.S. soldiers killed in combat in Iraq to 601, according to Pentagon reports. Four-hundred ninety-one of those deaths have occurred since President Bush declared major combat operations over on May 1, 2003.
Also on Friday, U.S. officials announced that Iraqi police have captured Umar Baziyani, a close aid to al-Qaida operative Abu Musab al-Zarqawi. The seizure took place on May 30 and "removes one of Zarqawi's most valuable officers from his network," a U.S. military spokesman said.