Lymphoid tyrosine phosphatase (LYP) and C-terminal Src kinase (CSK) are negative regulators of signaling mediated through the T-cell antigen receptor (TCR) and are thought to act in a cooperative manner when forming a complex. Here we studied the spatiotemporal dynamics of the LYP-CSK complex in T cells. We demonstrate that dissociation of this complex is necessary for recruitment of LYP to the plasma membrane, where it downmodulates TCR signaling. Development of a potent and selective chemical probe of LYP confirmed that LYP inhibits T-cell activation when removed from CSK. Our findings may explain the reduced TCR-mediated signaling associated with a single-nucleotide polymorphism that confers increased risk for certain autoimmune diseases, including type 1 diabetes and rheumatoid arthritis, and results in expression of a mutant LYP that is unable to bind CSK. Our compound also represents a starting point for the development of a LYP-based treatment of autoimmunity.