Reid has been pivotal in helping Billy Davies' side climb to fifth in the Championship table and scored the final goal in their 5-0 drubbing of West Ham in the third round of the FA Cup.
The 31-year-old Irishman will now remain at the City Ground until the end of the 2015-16 season.
"This is excellent news for the player, club and fans," Forest manager Davies told the club's official website.
"We're delighted Reidy is going to be here for the next two-and-a-half years."
Reid has played 273 times for Forest in two different spells at the City Ground, scoring 40 goals in the process.