The businessman headed to Clacton-on-Sea after he admitted he knew "nothing" about the Essex town.
But following his visit, he said he would be backing local party councillor Jeff Bray.
Mr Banks initially planned to take on current MP Douglas Carswell, before he announced he would not be standing.
The multimillionaire businessman said: "I have no intention of standing in the way of hard-working activists who are the soul of the party.
"Therefore, after visiting Clacton, I believe it would be wrong of me to stand against Jeff in the forthcoming hustings."
Mr Banks previously said he only knew Clacton from a "fabulous day out" during the referendum campaign, and as one of the strongest supporting areas for Euro-scepticism.
He said he has agreed to give the local UKIP party financial assistance to fight the election.
His arrival in the constituency follows the announcement by knife crime campaigner Caroline Shearer that she intends to stand as an independent there.
Her son, Jay Whiston, was 17 years old when he was murdered by Edward Redman in Colchester in 2012.

Nicholas Eggington was found guilty of two counts of indecent assault and two counts of gross indecency against a male child between 1992 and 1993.
The 58-year-old, who taught at the Cheam School in Hampshire, was placed on the sex offenders' register for life.
He is also subject to a sexual harm prevention order.
Winchester Crown Court heard Eggington, from Nottingham, worked at the school in Headley between 1987 and 1993.
Following sentencing on Friday, a Hampshire Police spokesman said the victim had shown "courage" during the "difficult investigation".
Former UKIP donor Arron Banks has said he will not stand for the Clacton seat in the general election after a fact-finding mission to the town.
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A teacher has been jailed for three years for sexually abusing a boy at a preparatory school.