The US Education Department is sending out memos to school leaders telling them that they cannot block students or teachers from praying in public.
The plans were revealed on the same day as President Donald Trump welcomed to the Oval Office a group of Christian, Jewish and Muslim students who have experienced discrimination in schools.
They met the US President to mark National Religious Freedom Day on Thursday.
In an announcement, the White House said that the Trump administration was "taking action to further safeguard students' constitutionally protected right to pray in school".
The new federal guidance says that students are free to read from religious texts or pray outside of lessons. Furthermore, public schools risk funding if they are found to have violated the religious freedom of students.
"The update will help safeguard students' rights by giving education providers and students the most current information concerning prayer in public schools," the White House said.
"To receive Federal funds, local educational agencies must confirm that their policies do not prevent or interfere with the constitutionally-protected rights outlined in the guidance.
"The updated guidance will help improve individuals' ability to file a complaint if they are denied the ability to participate in protected religious expression.
"The new guidance makes clear that students can read religious texts or pray during recess and other non-instructional periods, organize prayer groups, and express their religious beliefs in their assignments."
The White House added that the administration was also changing the rules regulating religious organisations "to protect religious organizations from unfair and unequal treatment by the Federal government".
"The proposed rules would eliminate burdensome Obama-era requirements that unfairly imposed unique regulatory burdens only on religious organizations," it said.
Education secretary Betsy DeVos said in a statement: "Our actions today will protect the constitutional rights of students, teachers, and faith-based institutions.
"The department's efforts will level the playing field between religious and non-religious organizations competing for federal grants, as well as protect First Amendment freedoms on campus and the religious liberty of faith-based institutions."
Family Research Council President Tony Perkins welcomed the news: "President Trump and his administration are taking on the bullies that have been intimidating school officials and bullying students with their often baseless lawsuits.
"No longer will students have to stand alone in the defense of their religious freedom as these anti-faith organizations seek to rob students in public schools of any form of religious expression."
