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ABSTRACT Lake sediment records give valuable insight into the dynamic events that characterized the last deglaciation in Iceland. Here, we focus on the well‐dated sediment record from Hestvatn, a low‐elevation lake in south Iceland, that features six graded bedding events deposited by outburst floods from glacial lakes dammed by the decaying Iceland Ice Sheet (IIS) in the time period of the Vedde Ash and the G10ka Series tephra. Using climate proxies preserved in the sediment cores, in conjunction with regional glacial geomorphology, we reconstruct the retreat of the IIS in south Iceland, from a marine‐based glacier during the Younger Dryas to a land‐based glacier during the Preboreal. As the ice sheet margin withdrew to the central highlands, ice‐dammed lakes formed along glacier margins. The ice‐dams were occasionally breached, generating large‐scale jökulhlaups (catastrophic outburst floods) that deposited thick turbidite sequences preserved in the sediment record of Hestvatn. The high concentration of volcanic material incorporated within deglacial sediments indicates that along with IIS retreat, subglacial volcanic activity may have helped initiate some of the jökulhlaups. Onset of more stable Holocene conditions was reached after the final turbidite at ~10 kabp, when the IIS had withdrawn from most of the highlands of Iceland.