Said to have now received regulatory approval from Chinese authorities, the deal will lead to each company investing $780 million (£594m) in the company.
It will be based in the Chinese coastal city of Ningbo, where manufacturing will take place. Sales operations will jointly commence in China and Germany.
Under the deal, production of Smart cars will move to China, with new electric-only models arriving from 2022. Mercedes will lead the design and styling, while Geely - which owns Volvo and Lotus - will lead the engineering.
As part of the new product plan, of which precise details haven't yet been disclosed, Smart will expand into the B-segment. The deal is intended to further develop Smart as “a leader in premium and intelligent electrified vehicles”, according to a joint statement from Geely and Mercedes parent company Daimler. Smart last year became an electric-only brand.
Geely chairman Li Shufu said: “We fully respect the value of Smart.
"As equal partners, we're dedicated to promoting the Smart brand globally.”
Until the new models launch in 2022, current Smart cars will continue to be made at Daimler’s plants at Hambach in France and Novo Mesto in Slovenia.
Daimler will also invest around £427m in Hambach to prepare it for production of a compact vehicle in its EQ electric range.
The joint venture will be headed by a board of six directors, split evenly between Daimler and Geely.