In the opening scene, Danny Vinyard, a young white supremacist, sits outside the principal's office, where his history teacher explains to the principal, Dr. Sweeney (Avery Brooks), that Danny wrote a book report sympathetic to Adolf Hitler's Mein Kampf. After some discussion, Dr. Sweeney calls Danny into his office and informs him that he will now be his history teacher, calling the class "American History X", and that his first assignment is to write a paper about his brother Derek.

Flashbacks throughout the film show Derek's transformation into a vengeful white supremacist in Venice Beach. Having already been influenced by his firefighter father's latent racism, Derek is driven to action when his father is murdered by a black drug dealer. Eventually Derek becomes second-in-command of a neo-Nazi gang, The D.O.C. (Disciples Of Christ), and entices young whites to join. The gang commits acts of intimidation, such as damaging a store owned by a Korean and challenging against groups of black players to basketball games, in order to win the basketball court as turf. One night while Derek is with his girlfriend Stacey (Fairuza Balk), three black men try to steal Derek's truck. Upon discovery of this, Derek shoots at the three men, killing the first one instantly, then killing the second wounded man with a curb-stomp in the street. The third man is able to escape in the bullet-ridden car. Danny watches in horror as this unfolds. The police arrive immediately afterward and arrest Derek as he smiles across the street at Danny.

After being convicted of voluntary manslaughter, Derek is sentenced to three years in prison. While there, he joins the Aryan Brotherhood. He becomes disillusioned with the gang, especially over the group's friendly dealings with a Mexican gang. When he voices these opinions, he is quickly shut down by the other white supremacists, so Derek chooses to not associate with them any more and is beaten and raped in the showers. It is while working in the prison laundry room that Derek gradually becomes friends with a black inmate named Lamont (Guy Torry).

While in prison, Derek is visited by Dr. Sweeney, whom he asks for help to get out on parole. Sweeney informs him of Danny's aspirations of becoming a neo-Nazi like Derek and heading to right where he is. Sweeney confides in Derek that he used to hate white people as a youth, but he came to the realization that racism was pointless. Sweeney asserts that Derek has spent his life pursuing answers, and then asks him: "Has anything you've done made your life better?" This proves a turning point for Derek, who further distances himself from the Aryan Brotherhood and changes his outlook on life. Lamont emerges as his only true friend in prison, and is part of the reason he stays alive as he uses what influence he has to stop the black prisoners from hurting Derek.

When Derek returns home he finds that Danny has become a white power skinhead and then tries and fails to convince him to leave the gang. Derek then tells the leader, Cameron Alexander, that he will no longer associate with him or the gang at which Cameron provokes Derek who beats him before leaving his office. During an ensuing confrontation, Derek's friend Seth Ryan points a gun at him, which Derek wrestles from him, and points it at the angry crowd before running away from the party. Danny angrily confronts Derek who tells him about his experiences in prison. The confession seems to prompt a change in Danny and they walk home with the insinuation that they will start to change their ways.

The following morning Danny finishes his paper, and Derek gets ready for a meeting with his parole officer. Derek walks Danny to school before his meeting, and on their way they stop at a café where they are met by Dr. Sweeney and a police officer. They tell Derek that Cameron and Seth were attacked the previous night, and have been hospitalized. Derek claims no knowledge of the incidents but they ask him for help, which Derek reluctantly agrees to do.

At school, Danny enters a bathroom before class starts and is confronted by a young black boy, with whom he had a confrontation the previous day. The student shoots Danny three times in the chest, killing him. When Derek arrives on the scene he tearfully cradles his brother in his arms. The film ends with Danny narrating part of his paper, in which he quotes the conclusion of Abraham Lincoln's first inaugural address: "We are not enemies, but friends. We must not be enemies. Though passion may have strained it must not break our bonds of affection. The mystic chords of memory will swell when again touched, as surely they will be, by the better angels of our nature."