The Department for Communities and Local Government (DCLG) had issued a safeguarding direction for a riverside site in Carnwath Road, Fulham, where Thames Water wants to build a drive shaft for the 16-mile Thames Tunnel.
The direction, made in February, prevented the London Borough of Hammersmith & Fulham from granting planning permission, entering into any agreement with landowners or passing any resolution to influence the site's planning status without ministerial authorisation.
But DCLG spokesman said the direction had been withdrawn and a new one issued last week "following legal advice". The new order just prevents the council from granting any planning permission for the site without ministerial approval.
The DCLG has been threatened with two judicial reviews over the original direction - one from the council and one from landowners Nortrust Nominees and Corner Homes. Both said the DCLG acted beyond its powers in issuing it.
Despite the new notice, a council spokesman said the authority is "highly likely" to try to challenge the government's decision to reserve Carnwath Road as a preferred site for sewer construction works.
He added that a DCLG letter to the council admitted that the previous order had been beyond the government's powers.
Council deputy leader Nick Botterill said: "We continue to explore our options for challenging the use of the Fulham riverside as a major sewer construction site."
Charles Mills, planning partner at chartered surveyors Daniel Watney, which represents the landowners, said his clients are undecided on whether they would still apply for a judicial review over the issuing of the safeguarding direction.
He said it was "reassuring" that the DCLG has accepted their concerns about the order as "well founded".
The DCLG has also revised a similar direction issued to the London Borough of Wandsworth to safeguard a site also wanted for use in the Thames Tunnel construction.