Netanyahu on Sunday called Trump a "great friend" of Israel and described the Golan Heights, which overlooks northern Israel, as an important strategic asset.
"The Golan Heights was and will always be an inseparable part of our country and homeland," he said.
The settlement will be called "Ramat Trump", Hebrew for "Trump Heights" and is not exactly new. Currently known as Bruchim, it is over 30 years old and has a population of 10 people.
"Thank you PM @netanyahu and the State of Israel for this great honor!" Trump tweeted later on Sunday.
Israel is hoping the rebranded settlement will encourage a wave of residents to vastly expand it.
"It's absolutely beautiful," said US Ambassador to Israel David Friedman, who attended Sunday's ceremony.
Noting that Trump celebrated his birthday on Friday, he said: "I can't think of a more appropriate and a more beautiful birthday present."
Israel captured the Golan Heights from Syria in the 1967 Middle East war and annexed it in 1981. Most of the international community considers the move illegal under international law.
But during a visit to Washington by Netanyahu in March, just weeks before the Israeli elections, Trump changed decades of US policy by signing an executive order, officially recognising the strategic mountainous plateau as Israeli territory.
The decision, the latest in a series of US diplomatic moves benefitting Israel, was widely applauded there.
"Few things are more important to the security of the state of Israel than permanent sovereignty over the Golan Heights," Friedman said.
"It is simply obvious, it is indisputable and beyond any reasonable debate."
After a cabinet meeting at the site on Sunday, Netanyahu and Friedman unveiled a sign trimmed in gold with the name "Trump Heights", adorned with US and Israeli flags.
'Cheap PR stunt'
Reporting from Jerusalem, Al Jazeera's Harry Fawcett said opposition parties have been pointing out that Netanyahu's transitional government, ahead of September's election, doesn't have the authority to enact a new settlement in the occupied Golan Heights.
"But that hasn't stopped Israeli Prime Minister Benjamin Netanyahu. He's taken his cabinet up there for what he called a 'festive cabinet meeting' which was attended unusually by the US ambassador David Friedman," Fawcett said.
Following Sunday's decision to inaugurate the community, developing the settlement still requires overcoming several additional bureaucratic obstacles.
With Netanyahu running for re-election in the second national election this year, it remains unclear whether he will be able to complete the task.
Zvi Hauser, an opposition legislator who formerly served as Netanyahu's cabinet secretary, called Sunday's ceremony a cheap PR stunt.
"There's no funding, no planning, no location, and there's no real binding decision," he said.
Developing Trump Heights will not be easy. Ringed by high yellow grass and landmines, it is located roughly 20km from the Syrian border and a half-hour-drive from the nearest Israeli town, Kiryat Shmona, a community of about 20,000 people near the Lebanese border.
According to Israeli figures, almost 50,000 people live in the occupied Golan Heights, including about 22,000 Jewish Israelis and nearly 25,000 Arab Druze residents.
While Israel has encouraged and promoted settlement in the Golan, its remote location, several hours from the economic centre of Tel Aviv, has been an obstacle.
The area is home to small agriculture and tourism sectors but otherwise has little industry.
Corruption charges
As Netanyahu unveiled the newly rebranded illegal settlement, his wife Sara on Sunday admitted to the misuse of public funds and asked a Jerusalem court to approve a plea bargain convicting her of fraud and breach of trust.
Under the charges in an amended indictment, Sara Netanyahu would plead guilty to exploiting the mistake of another person and pay a fine along with compensation, but corruption charges against her would be dropped.
She was initially charged in June 2018 with fraud and breach of trust for allegedly misusing state funds to pay for catered meals costing $100,000, by falsely declaring there were no cooks available at the prime minister's official residence.
Separately, Prime Minister Netanyahu is facing possible indictment for bribery, fraud and breach of trust in the months ahead.
He is reportedly seeking legislation that would result in him being granted immunity.
"Of course the bigger question now confronts Prime Minister Benjamin Netanyahu. He has three corruption cases of his own," Al Jazeera's Fawcett said.
"He was unable to cement a coalition after the last election. He's now ... had the Israeli parliament call new elections for September 17.
"All of the stuff that has been going on in the Golan today is very much part of his efforts to try to get re-elected and also appeal to his friend in the White House, Donald Trump."