The US Pentagon and state department have agreed on procedures which they say will improve oversight of private security contractors operating in Iraq.
Private security firms have been the subject of complaints from Iraqis
The move gives US military commanders a greater role in co-ordinating the movements of private security staff guarding US diplomats and the military.
The deal also sets new standards for inquiries into alleged rule breaches.
It comes in response to an incident in September involving the Blackwater firm in which 17 Iraqis were killed.
Contractors will still have the right to use deadly force to defend themselves and others if they believe they face serious harm.
Secretary of State Condoleezza Rice has already introduced a new set of guidelines and rules to govern the way private security guards operate in Iraq.
It includes the installation of cameras inside private security firm vehicles.
But military commanders have complained they are not told of the private security firms' movements, until after a hostile incident has taken place.
The new agreement says contractors will be accountable for criminal acts under US law, which correspondents say partly clarifies what happens if a contractor breaks the law.
However, the details still need to be worked out with US Congress.
"We think this a very good and strong memorandum of agreement between our two departments and should vastly improve the co-ordination and control of private security contractors operating in Iraq," said Pentagon spokesman Bryan Whitman.
Correspondents say a legal loophole has made it difficult or impossible to prosecute contractors under US military or civilian law until now.
After the fall of Saddam Hussein, the US-led occupation authorities gave foreign security firms immunity from prosecution in Iraq.
Critics said hard questions about legal accountability, oversight and how far contractors should take on governmental roles have still not been clarified.
"It's as if we all woke up to the fact that the emperor had no clothes, and so have gathered a study group that concluded the best answer is to ask him to kindly wear a scarf," said Peter Singer of the Brookings Institution.
An Iraqi government investigation concluded that Blackwater guards fired without provocation during the incident in Baghdad on 16 September and were "100% guilty".
Blackwater has insisted its staff acted only in self defence after insurgents fired upon the US diplomatic convoy they were protecting.
The incident caused great anger in Iraq, where the dozens of foreign security firms have a reputation among the population of indiscriminately using lethal force.