Australia has enlisted Nauru in its revised policy of keeping asylum seekers out of Australia.
The prime minister, Kevin Rudd and the President of Nauru, Baron Waqa, signed a memorandum of understanding providing for asylum seekers arriving by boat to be sent to Nauru where they can opt for resettlement after their claims for refugee status are processed.
Last month, Australia signed a similar deal with Papua New Guinea.
Australia will provide Nauru with 26.6 million US dollars in aid as part of the deal.
However, according to Fairfax media, Nauru says it will still only be a transit country for Australia's asylum seekers.
Canberra already runs two detention centres in Nauru - one of which was badly damaged in a riot last month.
Critics say Australia's new approach violates the UN Refugee Convention.