Rail life is controlled by the balance between wear and fatigue damage due to in service loading. To model and optimise rail life, knowledge of the fatigue crack initiation mechanism is required. This paper reports the effect of in service loading on microstructural changes in the subsurface layer of pearlitic rail steels and observations of early stage (10-50 mm length) fatigue crack formation. Micro and nanohardness measurements are reported, along with microstructural observations, showing differential work hardening in the proeutectoid ferrite and pearlite phases. It is proposed that the differential straining results in ductility exhaustion in the proeutectoid ferrite and therefore fatigue crack initiation and initial growth in the proeutectoid ferrite phase. Observations of short (,50 mm) cracks in rails taken out of service containing significant amounts of proeutectoid ferrite (<20%) confirm the proposed mechanism.