Mr Rudd made the announcement at Toyota's global headquarters in Nagoya, Japan, alongside the company's president, Katsuaki Watanabe.
The Federal Government will allocate $35 million from its Green Car Innovation Fund to support the move, which will produce up to 10,000 of the petrol-electric cars each year from 2010.
The Victorian Government will also make a financial contribution to the project.
Mr Rudd says the Government is talking to all Australian car-makers about building more environmentally-friendly cars.
"What we have here is an important underpinning technology which we will now have manufactured in Australia," he said.
Mr Watanabe says it is too early to know how many jobs will be created.
Victorian Premier John Brumby says it is great news for the industry, motorists and the environment.
"It gives Australian families the option, in the face of rising petrol prices, to buy a locally-made hybrid," he said.