Loss-of-function mutations in the progranulin gene (GRN), which encodes progranulin (PGRN), are a major cause of frontotemporal dementia (FTD). GRN-associated FTD is characterized by TDP-43 inclusions and neuroinflammation, but how PGRN loss causes disease remains elusive. We show that Grn knockout (KO) mice have increased microgliosis in white matter and an accumulation of myelin debris in microglial lysosomes in the same regions. Accumulation of myelin debris is also observed in white matter of patients with GRN-associated FTD. In addition, our findings also suggest that PGRN insufficiency in microglia leads to impaired lysosomal-mediated clearance of myelin debris. Finally, Grn KO mice that are deficient in cathepsin D (Ctsd), a key lysosomal enzyme, have augmented myelin debris and increased neuronal TDP-43 pathology. Together, our data strongly imply that PGRN loss affects microglial activation and lysosomal function, resulting in the accumulation of myelin debris and contributing to TDP-43 pathology.