Former Everton youngster Baxter joined Latics on a six-month deal in the summer and has netted 11 goals in 25 appearances for Paul Dickov's men, including the final goal in their shock 3-2 FA Cup triumph over Nottingham Forest last weekend.
Amid reports of interest from a host of npower Championship clubs, Dickov is delighted to have secured the services of the 20-year-old forward - whose initial deal was due to expire on Tuesday.
The manager told Oldham's official website: "It is a fantastic signing, not only for the team, but also the club and our supporters.
"I was always hopeful that Jose would stay and it is credit to him, his family and agent that he has decided to stay because he could easily have moved to a club at a higher level.
"Jose has enjoyed his football here and the fact he has shown such commitment to the club should be applauded. Sometimes players and agents get bad publicity, but I cannot praise both Jose and his representative highly enough.
"Jose appreciates how much work we have put in with him. Now he needs to kick on and I will work as hard as I can to make him even better because he has the ability to play at the highest level."
Baxter added: "The fact I have been playing every week helped make up my mind as well as the fans who have been brilliant. The gaffer and the lads have been great and I have loved every minute of my time here.
"In the summer I had no club and the gaffer took a gamble and I wanted to repay him by signing a two-and-a-half year contract.
"I am still only young and have plenty of time. I am looking to get the experience from playing regularly and for my career to kick on."