Lipid composition is expected to play an important role in modulating membrane enzyme activity, in particular if the substrates are themselves lipid molecules. A paradigmatic case is FAAH (fatty acid amide hydrolase), an enzyme critical in terminating endocannabinoid signalling and an important therapeutic target. In the present study, using a combined experimental and computational approach, we show that membrane lipids modulate the structure, subcellular localization and activity of FAAH. We report that the FAAH dimer is stabilized by the lipid bilayer and shows a higher membrane-binding affinity and enzymatic activity within membranes containing both cholesterol and the natural FAAH substrate AEA (anandamide). Additionally, co-localization of cholesterol, AEA and FAAH in mouse neuroblastoma cells suggests a mechanism through which cholesterol increases the substrate accessibility of FAAH.