The 36-year-old Briton had been out of contract since the end of December.
But after several weeks of negotiations, Hamilton agreed to stay with the stable and seek a record eighth drivers' title.
"Our team has achieved incredible things together and we look forward to building on our success even further," said Hamilton.
"I'm equally determined to continue the journey we started to make motorsport more diverse for future generations and I am grateful that Mercedes has been extremely supportive of my call to address this issue."
Records
In 2020 Hamilton drew level with Michael Schumacher when he clinched a seventh world title.
He has already notched up the record for Grand Prix victories and finishes on the podium.
Mercedes team principal Toto Wolff said: "The story of Mercedes and Lewis has written itself into the history books of our sport over the past eight seasons, and we are hungry to compete and to add more chapters to it."
Hamilton joined Mercedes in 2013, five years after winning his first drivers' title at McClaren, the stable that groomed him.
He claimed the crown in 2014 and 2015 but was pipped to the title by teammate Nico Rosberg in 2016.
Since then Hamilton has monopolised the prize and he has used his position to speak out on human rights and racism..
"I'm proud to say we are taking that effort further this year by launching a foundation dedicated to diversity and inclusion in the sport," said Hamilton.
The 2021 season was scheduled to start in Australia in March but the race was postponed due to the country's quarantine restrictions as part of its fight against the coronavirus pandemic.
The season will begin instead in Bahrain on 28 March.
