The 59-year-old, who has signed a three-year deal, had been out of the game since leaving Aston Villa at the start of last season.
He takes over with the club sitting 16th in the 20-team table, with 11 points from 13 games.
O'Neill, who captained Northern Ireland at the 1982 World Cup finals, joins a club he supported as a boy and will hope to quickly turn their fortunes around.
Assistant manager Eric Black will be in charge of the team for Sunday's tricky trip to fellow strugglers Wolverhampton Wanderers before O'Neill takes full charge.
"It's a very nice feeling to be back in football and to be the manager of Sunderland. It's a big moment for me," he said in a statement.
"I'd heard about what a good club it was but coming here, seeing the stadium and training ground, I've been bowled over. It's absolutely fantastic.
"I hope I can help Sunderland to a very successful period. That's what I've come for and that's my driving ambition."
O'Neill's arrival at the Stadium of Light comes nearly 16 months after his sudden departure from Aston Villa five days before the start of the 2010/11 season.
O'Neill, who spent much of his playing career at Nottingham Forest where he won the 1979 and 1980 European Cup, ruled himself out of the running for the Northern Ireland job in October saying he was considering a return to club football.
His four-year tenure at the Midlands club included three sixth-place finishes in the Premier League and Villa's first final in a decade - a League Cup defeat by Manchester United in 2010.
