In the slum neighborhood of Five Points, Manhattan, in 1846, two gangs have engaged in a final battle (or "challenge") in Paradise Square over "who holds sway over the Five Points"; these two factions participating in this event are the Nativist Protestants led by William "Bill the Butcher" Cutting, and a group of Irish Catholic immigrants, the "Dead Rabbits", led by "Priest" Vallon. At the end of this battle, Bill kills Vallon and declares the Dead Rabbits outlawed. Having witnessed this, Vallon's young son hides the knife that killed his father and is taken to an orphanage on Blackwell's Island.
Sixteen years later, in 1862, Vallon's son, using the alias of Amsterdam, returns to the Five Points seeking revenge and retrieves the knife. An old acquaintance, Johnny Sirocco, familiarizes him with the local clans of gangs and thieves, all of whom pay tribute to Bill, who controls the neighborhood. Amsterdam is finally introduced to Bill, but keeps his past a secret, seeking to be recruited. He learns that many of his father's former loyalists are now in Bill's employ. Each year, Bill celebrates the anniversary of his victory over the Dead Rabbits; Amsterdam plans to murder him secretly during this celebration.
Amsterdam becomes attracted to pickpocket and grifter Jenny Everdeane, with whom Johnny is infatuated. Amsterdam gains Bill's confidence and Bill becomes his mentor, involving him in the dealings of corrupt Tammany Hall politician William M. Tweed. Amsterdam saves Bill from an assassination attempt, and is tormented by the thought that he may have done so out of honest devotion.
On the evening of the anniversary, Johnny, in a fit of jealousy over Jenny's affections for Amsterdam, reveals Amsterdam's true identity and intentions to Bill. Bill baits Amsterdam with a knife throwing act involving Jenny. As Bill toasts Priest Vallon, Amsterdam throws his knife, but Bill deflects it and wounds Amsterdam with a counter throw. Bill then beats him and burns his cheek with a hot blade. Going into hiding, Jenny nurses Amsterdam back to health and implores him to escape with her to San Francisco.
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