The 30-year-old forward has put pen to paper on the new deal, making him the Fir Park side's seventh signing of the summer.
McFadden began his career with the Steelmen before returning to the club in February on a short-term deal after a lengthy spell in England with Everton, Birmingham and Sunderland.
He helped Motherwell secure second spot in the Scottish Premier League, with five goals in 10 starts, and has now signed on for the new campaign.
McFadden told MFC TV: "I am really pleased to have it all sorted.
"When the manager asked me to go to Spain, I made up my mind then that I was going to come back and I am really looking forward to the season ahead.
"My relationship with the supporters and how they are with me certainly played a part in my decision.
"It's familiar surroundings; obviously I really enjoyed it last season, I hope the fans will be happy and I am happy to get it all done."
Chief Executive Leeann Dempster added: "Obviously we are thrilled and delighted to have James on board again.
"He is an iconic figure amongst our supporters and made a significant contribution at a vital time last season.
"The board have been very pleased with how the summer recruitment plan has gone thus far and are still hopeful of adding some more new faces in the near future."
- Sports & Recreation
- Scottish Premier League