Last month a report found South Ribble Council had a lack of awareness about ensuring passenger safety issues surrounding taxi licence applications.
Tory councillor Margaret Smith had faced calls for her to quit from her own party over the handling of the taxi licensing row.
A full council meeting was informed she resigned due to "ill health".
Ms Smith, who has been leader of the authority for the past nine years, was not present at the meeting in Leyland.
Her resignation letter was read out by chief executive Mike Nuttall and was "with immediate effect".
An audit of taxi driver licence applications in December had found appropriate background checks had not been carried out in relation to 40 working taxi drivers in South Ribble.
An independent report, written by solicitors Wilkin Chapman LLP in June, concluded the issues surrounding taxi licence applications had been addressed so it was not necessary to make any further recommendations.
Earlier this week, four of Ms Smith's Conservative colleagues resigned from the group, saying they could not support the leadership due to "ongoing circumstances and failures".
The council is now under no overall control for the first time in almost a decade.
Councillor Colin Clark was unanimously voted in as the interim leader of the authority at the meeting on Wednesday.
Councillor Cliff Hughes, who has worked with Ms Smith for over 30 years, said she was "hard working and a "good colleague" who "gets on with the whole group".
He said one of the "great strengths" of the council was that "whilst the parties are diverse, we do actually get on together and make decisions together and I think that's because Margaret led us into that".

Josh Meekings, 23, denies causing offences aggravated by sexual orientation prejudice in an Inverness street on 20 December last year.
He was arrested by police officers who heard the Inverness Caledonian Thistle defender's remark to an unidentified man, Inverness Sheriff Court heard.
Sentence was deferred on Meekings for six months for good behaviour.
The incident in Inverness city centre came after Inverness drew 2-2 with Dundee United.
Defence lawyer John MacColl told the court that his client had offered a guilty plea admitting to a confrontation with police.
The court heard that officers saw Meekings "gesticulating aggressively" towards a man and tried to move the player away. The officers then heard footballer's offensive remark.
Mr McColl said of his client's behaviour: "It was conduct in the face of deliberate baiting and vile racist abuse directed at him. His was a spontaneous remark said in the heat of the moment."
Sheriff Gordon Fleetwood told Meekings: "If there is no repeat of this nonsense, then it is open to the court to grant you an absolute discharge which will mean you will not have a criminal record."
If Meekings has not committed any further offences, he was told he did not have to re-appear in court personally on 4 May next year.

Debutant Jordan Kirkpatrick put Clyde in front after eight minutes but Arbroath turned the game on its head early in the second half.
Bobby Linn's penalty levelled 11 minutes after the break, then Richard Little's right-footed effort two minutes later left Clyde stunned.
Clyde failed to capitalise on leaders East Fife's 1-1 draw with Queen's Park.

21 July 2015 Last updated at 07:09 BST
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Ayshah went to meet some young beekeepers to find out more.
The leader of a council at the centre of claims children were sexually exploited by taxi drivers has resigned.
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A footballer shouted homophobic abuse at a man who had made a racist comment to him, a court has heard.
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