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Multipotent mesenchymal stromal cells (MSCs) have generated considerable interest in the fields of regenerative medicine, cell therapy and immune modulation. Over the past 5 years, the initial observations that MSCs could enhance regeneration and modulate immune responses have been significantly advanced and we now have a clearer picture of the effects that MSCs have on the immune system particularly in the context of inflammatory-mediated disorders. A number of mechanisms of action have been reported in MSC immunomodulation, which encompass the secretion of soluble factors, induction of anergy, apoptosis, regulatory T cells and tolerogenic dendritic cells. It is clear that MSCs modulate both innate and adaptive responses and evidence is now emerging that the local microenvironment is key in the activation or licensing of MSCs to become immunosuppressive. More recently, studies have suggested that MSCs have the capacity to sense their environment and have a role in pathogen clearance in conjunction with the resolution of insult or injury. This review focuses on the mechanisms of MSC immunomodulation discussing the multistep process of MSC localisation at sites of inflammation, the cross talk between MSCs and the local microenvironment as well as the subsequent mechanisms of action used to resolve inflammation.