Magath, well known for his drastic training methods and hardline approach to discipline, became the first coaching victim of the Bundesliga season following a meeting with the board of directors.
His team have lost their last four matches without scoring a goal, leaving them with five points from their first eight games.
"The Wolfsburg board of directors and Felix Magath have agreed to terminate the cooperation," said the club in a statement on its website, adding that the separation was "amicable."
"The board of directors regrets that it has come to this."
Reserve team boss Lorenz-Gunther Kostner was named as caretaker coach, the second time he has taken on the role.
Former West Germany striker Magath had been in charge for 18 months since returning to Wolfsburg in March 2011, only one week after being sacked by Schalke 04.
Wolfsburg went on a spending spree in the close season as they attempted to improve on last season's eighth place but it has still to yield dividends and 59-year-old Magath had begun to introduce extra training sessions.
Magath, whose nickname "Quaelix" is a combination of the German verb for torture and his first name, helped Wolfsburg escape relegation by the skin of their teeth at the end of the 2010/11 season as they finished 15th, two points about the relegation play-off spot.
In doing so, he fell out with Brazilian playmaker Diego, who stormed out on the team after being told he would not play in the final match of the season.
Diego spent last season on loan at Atletico Madrid, helping them win the Europa League, and then returned to Wolfsburg for this season. He was forgiven by Magath but has yet to repeat his Atletico performances.
"We want to express our thanks to Felix Magath explicitly," said chairman Francisco Javier Garcia Sanz.
"He has, during his two terms with Wolfsburg, showed tremendous commitment and great achievements for our club and the city of Wolfsburg and the sport in the region."
Magath, who won 43 caps for West Germany between 1977 and 1986, has also coached Hamburg SV, Nuremberg, Werder Bremen, Eintracht Frankfurt, VfB Stuttgart and Bayern Munich.
His most successful spell was at Bayern where he won the Bundesliga and cup doubles in two successive seasons.
Wolfsburg visit promoted Fortuna Dusseldorf on Saturday.
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