The agreement between residents of Tulia, Texas, with the nearby city of Amarillo also would disband the police's multi-agency task force that oversaw the sting's main undercover agent.
Details were to be released Thursday in a news conference in Amarillo.
"The settlement that was reached is truly historic," attorney Jeff Blackburn told The Associated Press. "It represents the first example of a responsible city government putting an end to irresponsible task force system of narcotics enforcement."
All but one of the 46 people arrested will receive some portion of the money. One defendant died before going to trial and is not included in the settlement, Blackburn said.
A claims administrator will determine how the funds will be apportioned.
Mediation is ongoing with others named in the lawsuit - 26 counties and three cities that were involved with the Panhandle Regional Narcotics Trafficking Task Force.
On July 23, 1999, 44 people - 37 of whom were black - were arrested in the busts, which civil rights groups claimed were racially motivated. Charges against seven defendants were dismissed before trial.
The undercover agent, Tom Coleman, is white. He worked alone and used no audio or video surveillance. Authorities found no drugs or money during the 46 arrests.
The cases cast an often-unflattering light on the farming town of about 5,000 between Lubbock and Amarillo on the High Plains. Amarillo saw an "injustice" and wanted to right it, Blackburn said.
"The action of the city settling shows a leadership by a city in the Texas Panhandle that few would have expected," he said. "It's a fair effort to do the right thing to correct a serious injustice."
Following evidentiary hearings in which a judge pronounced Coleman "simply not a credible witness under oath," Swisher County officials approved a $250,000 settlement for those imprisoned on Coleman's word. In exchange, those defendants promised not to sue the county.
Coleman spent 18 months working undercover in Tulia, a Texas Panhandle town of about 5,100 residents 70 miles north of Lubbock. He is scheduled to stand trial May 24 on perjury charges related to testimony he gave during evidentiary hearings in March 2003.
Gov. Rick Perry granted pardons to 35 of those convicted.
By Betsy Blaney