Charles Clarke, the education secretary, delighted the Association of Colleges' annual conference in Birmingham by announcing that cash for further education would rise from £4.4bn in 2002-03 to £5.6bn for 2006.
The deal would "substantially narrow the pay gap" between colleges and schools.
David Gibson, chief executive of the AoC, the employers' body representing the 420 colleges in England, welcomed "the most generous settlement we have had in living memory".
Paul Mackney, general secretary of the lecturers' union Natfhe, which has been taking industrial action in protest at a 2.3% pay offer, was almost as euphoric, declaring it the best deal for FE since 1993.
Natfhe and Unison held a one-day national strike on November 5 and a half-day strike in the Midlands yesterday. But they have now called off a national one-day strike planned for December 5 "as a goodwill gesture".
Mr Mackney urged the AoC to get round the table again; the package yesterday gave colleges a chance to "get out of the cycle of neglect".
However, colleges' funding will depend on their meeting performance targets agreed with the learning and skills council, the quango responsible for all post-16 education.
"Change in the sector is desperately needed. For too long it has been the forgotten service of education. Performance across the board can vary widely," Mr Clarke said.
Margaret Hodge, the further education minister, has torn into the poor quality of some colleges. Mr Clarke urged colleges to make courses more appealing and relevant to students and employers, and to raise the number of women in senior posts.
All colleges will receive a 2% increase in real terms, in funding per student, if they agree a three-year learning development plan, and set targets for pass rates, student numbers, professional training and links with employers.
Colleges which meet the plans will get an extra 2.5% in real terms, and those who beat the targets will get 3.5% extra. Mr Clarke said they would benefit from a "massive devolution of decision making to frontline managers".
"Unsatisfactory" colleges, meanwhile, will receive inflation-only increases. The Department for Education and Skills said it expected no more than 10% of colleges to be performing poorly and the number would fall over time.
· Chris Woodhead, the former chief inspector of schools, said yesterday the school leaving age should be 14, to let pupils take up apprenticeships.
