Magath's deal was due to run out at the end of next season but after reviving Wolfsburg since his return in March last year the club have sought to keep him at the Volkswagon Arena.
"I am delighted that VfL have given me the opportunity to work for the long term," the 58-year-old, who led Wolfsburg to their only Bundesliga title in 2009, told the club's website.
"Even in the last season, most of our decisions have been taken in perspective.
"Now we have to continue this work and expand. We want VfL to mature into a solid team in the Bundesliga."
Since his return, after being sacked by Schalke, Magath helped the Wolves avoid relegation before they narrowly missed out on a European place in the recently-concluded season.
"We believe in continuity and with Magath we are on the right track," chairman Dr Francisco Javier Garcia Sanz said.
"Under him the club had its most successful period. The early contract extension is an expression of our confidence.
"With Felix Magath we can achieve both our short-term goals, such as the battle for European Cup places next year, as well as take the long-term view.
"VfL want to be a club that is consistently in the upper third of the league."