The US has written off all of its $4.1bn in Iraqi debt and urged other nations to follow suit.
Iraq says its debts are hampering reconstruction
At a ceremony in Washington to mark the move, US Secretary of State Colin Powell said the cancellation was important for Iraq's "new beginning".
Iraq's finance minister said the debt relief was a "second liberation".
Correspondents say the US has now gone further than other nations in the Paris Club of lenders, which last month agreed to cancel 80% of Iraq's debt.
Mr Powell, US Treasury Secretary John Snow and Iraqi Finance Minister Adil Abd-al-Mahdi signed the agreement in a ceremony at the Department of State.
"This a tremendous victory... for the Iraqi
people," Mr Powell said.
"We urge other nations who are not Paris Club
members to reach comparable agreements on Iraqi debt relief," he added.
Iraq owes about $40bn in debt and interest repayments to the 19-strong club of creditors, which includes the US, Russia, Japan and European nations.
But the country still owes over $80bn to countries outside the Paris Club and is now appealing to them to show similar forgiveness, the BBC's Rob Watson in Washington says.