Queensland Rugby Union chief executive Jim Carmichael said it was in the best interests of both parties that O'Connor part ways with the Reds.
It paves the way for the 25-year-old to return to French glamour club Toulon, where he spent six months before joining the Reds earlier this year.
Indeed, O'Connor has been repeatedly linked with a move back to Toulon all season.
In June, News Corp reported O'Connor had made an agreement with billionaire Toulon owner Mourad Boujellal to return to the club before he had even left for Queensland.
"James has experienced a difficult time personally since returning to Australia and we've been aware of that for some time," Carmichael said.
"Therefore, James will return to Europe where he feels the spotlight on him is less intense.
"In our discussions, we've agreed that should James return to Australia to play rugby in the future, the Reds will have the first and last rights to secure his services."
O'Connor played just 13 games in a injury-wrecked year with the Reds, his troublesome knee holding him back from recapturing his best form.
His return to Australian rugby was partly motivated by a bid to make the Wallabies' World Cup squad but he was unsurprisingly overlooked by coach Michael Cheika.
"James' willingness to be proactive and speak to the Reds and RUPA regarding matters that too often are suppressed until it is too late are testament to his development and maturing," RUPA boss Ross Xenos said.
"James is a player of enormous talent and we all hope he will benefit from time and space out of the spotlight to return to Australian rugby in the future.
"In releasing James, the Reds have clearly shown their commitment to the welfare of their people and credit to them for their leadership and understanding."
- AAP
