While cleaning wastewater, biological wastewater treatment processes such as membrane bioreactors (MBR) produce a significant amount of sludge that requires costly management. In the oxic-settling-anoxic (OSA) process, sludge is retained for a temporary period in side-stream reactors with low oxygen and substrate, and then it is recirculated to the main reactor. In this way, excess sludge production is reduced. We studied the influence of the rate of sludge exchange between MBR and side-stream anoxic reactors on sludge yield reduction within MBR. Two MBRs, namely, MBROSA and MBRcontrol, each coupled with separate external anoxic side-stream reactors, were run in parallel for 350 days. Unlike MBRcontrol, MBROSA had sludge exchange with the external reactors connected to it. During the investigation over a sludge interchange rate (SIR) range of 0–22%, an SIR of 11% achieved the highest sludge reduction (58%). Greater volatile solids destruction i.e., bacterial cell lysis and extracellular polymeric substance (EPS) destruction occurred at the SIR of 11%, which helped to achieve the highest sludge reduction. The enhanced volatile solids destruction was evident by the release of nutrients in the external anoxic reactors. It was confirmed that the sludge yield reduction was achieved without compromising the wastewater treatment quality, sludge settleability and hydraulic performance of the membrane in MBR.