The sustainability of rice (Oryza sativa L.) cultivation has been threatened by water deficit and nitrogen (N)-fertilizer abuse. Straw return combined with N-fertilizer reduction could be an effective agronomic practice to improve N-use efficiency in rice production, but the interaction with water-saving irrigation regimes remains largely unknown. Here, a 2-year paddy field experiment was conducted to elucidate the effects of irrigation regime (continuously flooded, CF; controlled irrigation and drainage, CID) and straw return with N reduction (conventional farmers’ fertilization practice of 300 kg N ha−1 without straw return, N300; straw return with 25% N reduction, SN225; straw return with 50% N reduction, SN150) on rice growth dynamics, grain yield and water–nitrogen utilization. The results showed that CID significantly affected photosynthesis and fluorescence indicators, and increased grain yield and water productivity of rice. Straw return with N reduction reduced most rice growth traits, exhibiting lower plant height, tillers, leaf photosynthesis, chlorophyll fluorescence and dry matter accumulation, especially in vegetative growth under CF. In contrast, SN225 under CID showed compensatory effects on photosynthetic and fluorescence traits, thus improving N uptake during the reproductive growth stage. Despite a 6.6–7.1% yield reduction in SN225, 25% of N-fertilizer input was saved, with a corresponding increase in internal N-use efficiency and N-partial factor productivity. Overall, the present study indicates that straw return combined with moderate N deficiency might be a more eco-friendly and sustainable agronomic practice in water-saving irrigated rice fields.