They also announced that €55 million is being set aside for a tourism business support scheme, according to Minister for Public Expenditure, Michael McGrath.
Speaking today at the launch of Budget 2021, Mr Donohoe said "I have chosen to introduce the VAT rate at the earliest possible moment to allow those businesses that are currently open to benefit.
"I am putting this reduced rate in place until December 2021 in order to provide significant additional support to businesses next year
"I am also extending the Knowledge Development Box relief for a further 2 years until end December 2022. The Knowledge Box is an OECD-compliant intellectual property regime that supports businesses in retaining and exploiting assets that have resulted from R&D activities in Ireland."
Members of the hospitality sector broadly welcomed today's announcement but were disappointed there was no change in the Employment Wage Subsidy Scheme.
A member of the sector said that 9 per cent VAT is the right rate and will stimulate demand and aid recovery.
Irish Hotels Federation (IHF) President, Elaina Fitzgerald Kane, welcomed the extension of employment supports to the end of 2021 and the rates waiver scheme along with the reduction in the tourism VAT rate, which she said would help aid the recovery of the industry.
She said the new Covid Restriction Support Scheme, the Tourism Business Support Scheme and funds for tourism product development, are welcome recognition of the challenges being faced by businesses.
Ms Fitzgerald Kane said: "After the last recession, tourism created the most jobs - 90,000 new jobs - and there is no doubt that the 9 per cent VAT rate contributed significantly to this increased employment.
"Pre-Covid, our industry supported almost 270,000 livelihoods, one in ten jobs across the country, 70 per cent of which were outside of Dublin. Reducing the Tourism VAT will help sustain jobs and communities across Ireland."
She also stated that it can be a stimulus for the Irish economy and that the reduction will improve competitiveness as an international tourism destination.
Ms Kane believes the decreased rate should be a permanent measure, at a minimum of five years. She said before today, VAT on Irish Hotels was the second highest in Europe and higher than 30 European Countries.
She also welcomed the announcement that the Government is to introduce a compensation scheme for businesses forced to close due to Government restrictions. “We welcome the recognition of the enormous hardship that these businesses face, including those in the tourism sector and we look forward to seeing the full details," she said.
Additionally, she welcomed the €55 million allocated for a Tourism Business Support Scheme as well as the €5 million for tourism product development, highlighting the strong success of products including the Wild Atlantic Way in increasing domestic and overseas visitor numbers in recent years.