The 31-year-old forward began his career at Fir Park before making his return in February 2013 after a brief spell at Sunderland.
Despite McFadden recently expressing his desire to stay at the club, the Scot has been released by the Steelmen.
"I had James in last Friday and we had a discussion about the future and everything was very amicable," Motherwell boss Stuart McCall told the club's official website.
"I cannot speak highly enough of his attitude, desire and professionalism whilst he was here, particularly when going through a difficult patch or when he was injured.
"We have five different options in [his] position and need to utilise the budget in other areas of the squad."
McFadden scored five goals in 23 games for the team last season.