Donovan, the Galaxy's all-time leading striker with 99 goals in 210 games, is now likely to end his illustrious playing career in Los Angeles in Major League Soccer (MLS).
"This organization has always treated me with the utmost respect and I feel truly blessed that I am able to continue playing here," Donovan, 31, said in a statement released by the club on Wednesday.
"The opportunity to play with the team I love and work to win championships, in front of wonderful fans while also being close to my family is literally a dream come true."
Donovan, who has had loan spells with English Premier League club Everton and Germany's Bayern Munich in the past, would have become a free agent in December had his current four-year deal with the Galaxy not been extended.
"We are pleased that Landon has re-signed with the Galaxy," said the team's head coach and general manager Bruce Arena. "He is the best player in the history of the game in our country.
"This signing is instrumental toward our commitment to build a team that can compete for championships year-in and year-out."
Donovan, widely considered to be the best player ever produced by the United States, took an extended break from the game after securing the MLS Cup title with the Galaxy in December and lost his place in the U.S. national team.
However, he returned to the international stage at the recent CONCACAF Gold Cup and was the tournament's joint top scorer with five goals, helping Juergen Klinsmann's team to the title.
Losing Donovan would have been a major blow for the Galaxy after English midfielder David Beckham left the club last season for a brief pre-retirement spell in France with Paris Saint Germain.
Irish striker Robbie Keane remains as the team's top international alongside Donovan but the club's promise to bring in a big-name player to replace Beckham has yet to materialise.
While Brazilian Kaka of Real Madrid and England midfielder Frank Lampard of Chelsea were both strongly linked with a move to Los Angeles, the club instead filled their remaining elite 'designated player' slots earlier this month by signing homegrown defender Omar Gonzalez to a new contract.