Monahan was born in Dorchester, Massachusetts. He attended the University of Massachusetts Amherst, where he studied Elizabethan and Jacobean drama. He moved to New York City and contributed to the alternative weekly newspaper New York Press and the magazines Talk, Maxim, and Spy. In 1997 Monahan won a Pushcart Prize for his short story "A Relation of Various Accidents Observable in Some Animals Included in Vacuo". Monahan was an Editor at Spy during the magazine's final years, where he would come in at the close of the monthly issue to rewrite articles and improve jokes.

Monahan wrote a novel titled Light House: A Trifle, and Warner Bros. optioned the film rights. In 1999 Talk magazine debuted, and Monahan contributed a travelogue on Gloucester, Massachusetts, to the first issue. In 2000 Monahan's first novel, Light House: A Trifle, was finally published, and it garnered critical acclaim; The New York Times proclaimed, "Monahan's cocksure prose gallops along" and BookPage Fiction called Monahan "a worthy successor to Kingsley Amis." In the second half of 2001 Monahan wrote a fictional column at the New York Press under the pseudonym of Claude La Badarian, which ran for 13 weeks.

Monahan steadily secured work in the film industry throughout the 2000s. Brad Pitt's production company, Plan B, hired Monahan to write an adaptation of Hong Kong Director Andrew Lau's gangster film Infernal Affairs. Monahan respun Infernal Affairs as a battle between Irish American Gangsters and cops in Boston's Southie district, and Martin Scorsese directed the completed screenplay under the title The Departed for Warner Bros. Monahan's work on the film would later earn him two Best Adapted Screenplay awards, from the Writers Guild of America and the Academy Awards.

In 2001 20th Century Fox bought Monahan's spec script Tripoli, about william Eaton's epic march on Tripoli during the Barbary Wars, in a deal worth mid-six figures in American dollars, with Mark Gordon attached as Producer. The script was given to Ridley Scott to direct. Monahan met with Scott to discuss Tripoli, and Scott mentioned his Desire to direct a film about knights. Monahan suggested the Crusades as a setting, reasoning that "you've got every conceivable plot imaginable there, which is far more exotic than fiction". Scott was captivated by Monahan's pitch and hired him to write the screenplay for Kingdom of Heaven. Tripoli was eventually shelved, but Monahan retained ownership of the screenplay and therefore the right to consider new offers at a later date.

Kingdom of Heaven was the first of Monahan's screenplays to be produced into a film. Monahan had negotiated a production write-through contract for Kingdom of Heaven, which allowed him to be present on the movie sets to make modifications to the shooting script during production. It was poorly received by critics when it was released in theaters in 2005. Kingdom was critically reappraised when it was released on DVD in the form of a director's cut that contained an additional 45 minutes of footage previously shot from Monahan's shooting script. Some critics were pleased with the extended version of the film.

In 2006 Monahan negotiated a first-look producing deal with Warner Bros., which gives the studio the first right of first refusal on any films produced by Henceforth, a production company he started. In return Henceforth received the film rights to produce John Pearson's true crime novel The Gamblers, which Warner Bros. had acquired the rights to.

In 2007 Monahan was hired to work on two film projects: an adaptation of the Hong Kong film Confession of Pain and an original rock and roll film, The Long Play. Monahan will executive produce and write the adaptation for Confession of Pain. The adaptation of Confession of Pain will be produced by Leonardo DiCaprio's production company, Appian Way, for Warner Bros. Pictures. Monahan's other assignment is to rewrite a screenplay about the history of the rock music Business called The Long Play. The Long Play is the creation of Mick Jagger, lead singer of The Rolling Stones, and was nurtured at Jagger's production company, Jagged Films. Martin Scorsese became involved while the film project was at Disney but subsequently negotiated a turnaround deal to bring The Long Play to Paramount.

Monahan's directorial debut was London Boulevard, released in 2010.