The team, who were ranked number one for the tournament, were overcome by an on-fire Australian outfit who tested England to the limits from the first whistle to the last.
England, coached by Simon Amor and Mike Friday, will now contest the Plate final against Canada this evening.
England Head Coach Amor said: "We are of course very disappointed to have lost in the quarter-finals. We came here to win, and the players have worked so hard towards that aim.
"Australia though were a very physical side, and took their chances. On this occasion we didn't get the result we wanted, but that's sevens rugby."
England were without Jo Yapp for their quarterfinal clash after she picked up an injury during the pool stages, and Amor admits she was a vital loss.
He added: "Jo is an integral part of this squad, and any team would be delighted to have her in their side. She was missed but she is just one member of a very talented squad."
Amor and Friday teamed up with the England Sevens squad last year to spearhead their world cup assault after both having illustrious careers with the England men's team.
"This has been a wonderful experience," added Amor. "The girls have been a delight to work with, and really let us push them to their limits. I now hope that this journey, for all the women's teams involved, will be the start of something very big for them."
The Red Roses had in fact taken the advantage early on in the midday Dubai sun, when a great break from Worcester's Katherine Merchant saw Saracens' Claire Allan pick-up in support and charge 40 metres up-field and score. Alice Richardson couldn't make the conversion though.
On six minutes the Australians bounced back on the score-sheet with Tobie McGann adding five vital points for them just before the break.
England, however, did enough to take the lead at half-time with captain Sue Day securing her fourth try of the tournament. The touchdown came in extra time as England kept battering Australia's line. A well executed pass from Danielle Waterman then set Day loose on the right wing to score.
Australia, who were ranked second for the tournament, again showed their determination and came back at England to draw level after nine minutes with a try from Nicole Beck, before Rebecca Tavo added the Wallabies' third. That last try was converted and Australia sealed the 17-10 victory.
England Women's Rugby World Cup Sevens Squad
Sue Day Wasps Captain
Maggie Alphonsi Saracens
Heather Fisher Wasps
Emma Layland Richmond
Charlotte Barras Saracens
Jo Yapp Worcester
Danielle Waterman Blaydon Team Northumbria
Alice Richardson Richmond
Rachael Burford Saracens
Claire Allan Saracens
Michaela Staniford Wasps
Katherine Merchant Worcester
England Australia - semi-finals
Starting line-up: Day, Fisher, Alphonsi, Waterman, Richardson, Allan, Merchant.
Tries: Allan, Day
Substitutions: Staniford for Merchant, Burford for Richardson (both HT)