The Argentinian, who played for Atletico in two spells between 1994 and 2005, will take up the role on Monday after agreeing a deal for the remainder of this season and the 2012/13 campaign.
He will be formally presented to the media at the Vicente Calderon stadium on Tuesday and his first match in charge will be a Primera Division meeting with Malaga on January 7.
"Atletico Madrid have completed the hiring of Diego Simeone as the new coach of the Atletico first team," read a statement on club website clubatleticodemadrid.com.
"The Argentinian coach has accepted the offer made to him by the club on Thursday [to take charge] for the remainder of the season and another season, and will arrive in the Spanish capital to begin work at the helm next Monday."
Simeone becomes Atletico's 11th coach in 10 years and will bid to arrest a run of alarming form that has seen the club lose three of their last four matches in the league and crash out of the Copa del Rey.
The 41-year-old former Argentina international made over 130 league appearances for Atletico in two spells at the club. He was a key member of Atletico's 1996 double-winning side, and also had spells at Sevilla, Inter Milan and Lazio.
Simeone retired from playing in 2006 and has since embarked on a managerial career largely based in his homeland and taking in stints at Estudiantes, River Plate and San Lorenzo.
His managerial highlights include guiding Estudiantes to the 2006 Apertura title and taking River Plate to the 2008 Clausura, while earlier this year he helped guide Catania clear of relegation danger from Serie A during a short stint at the Italian club.
He was most recently at the helm of Argentinian side Racing de Avellaneda, guiding the club to the Copa Sudamericana for the first time in eight years.
The Atletico board will hope the appointment of Simeone signals an upturn in form after Manzano was removed from the post yesterday following a poor run of results.
Sunday's 2-0 defeat at home to Real Betis left the 'Rojiblancos' 10th in the standings heading into La Liga's winter break, while they crashed out of the Copa del Rey in midweek at the hands of third-tier Albacete.
Manzano did guide Atletico to the last 32 of the Europa League as winners of their group but that was not enough to appease the board or the club's disgruntled supporters.