The 26-year-old has been struggling with a knee problem for some time but agreed to represent the Red Rose once again for the T20 Blast.
However, Cricket Australia has refused to issue the No Objection Certificate and now Lancashire will be without the all-rounder for the campaign.
"It is regretful that I am unable to fulfil my playing contract with Lancashire in 2017," Faulkner told Lancashire's official website. "Over the last 18 months, I have had an extremely heavy playing schedule. I have also been managing an ongoing knee condition.
"With more cricket ahead and with an equally busy season in 2017/18 around the corner, the decision has been taken for me to rest up in July and August.
"This will undoubtedly be in my best interests but I am sorry to be missing out on more playing time with Lancashire. I thoroughly enjoyed my time in Manchester in 2015 and have very fond memories of our T20 victory. I would like to wish the club a successful campaign this year."
Faulkner has played one Test, 67 one-day internationals and 24 T20 matches for Australia.