In this paper an iterative domain decomposition method for the solution of Laplace's equation is described and its effectiveness in time-domain computations of nonlinear water waves with a panel method is investigated. An important aspect of these computations is the varying shape of the free surface. The convergence of the iterative method is fast and leads to a speedup of the computations in the aforementioned application. The domain decomposition method gives a considerable reduction of memory requirements. Furthermore, it lends itself naturally for parallel computing.