German Defense Minister Thomas de Maiziere announced the decision on Tuesday in a joint press conference with his Israeli counterpart Ehud Barak in Berlin.
"A further boat will be delivered to Israel and there will be financial help," said Maiziere, confirming that Germany would shoulder part of the cost of the submarine.
In November, a German government source had said that the country would pay a contribution of 135 million Euros ($178 million), a third of the cost.
Three earlier-model Dolphin submarines had been delivered to Israel between 1998 and 2000.
In 2006, Israel placed its fourth and fifth orders for two more advanced subs. The fourth one is scheduled for delivery by 2013. The fifth and the sixth orders are due for delivery in 2014 and 2016 respectively.