From July the basic Hotmail allowance will be boosted to 250MB and paying customers will get two gigabytes.
The move is widely seen as a response to Google's GMail service which gives all users a gigabyte of storage to keep all their messages.
With the announcement, Hotmail becomes one of a growing pool of e-mail firms offering users huge amounts of storage.
Currently, paying customers of Microsoft's Hotmail get at least 10MB of storage space and those who use it for free have 2MB for their old messages.
Boosting storage limits means Hotmail must revamp its charging system which is based around a "pay more to store more" system.
The new service with the boosted storage will be called Hotmail Plus and will cost $19.95 per year. Users who currently pay more for storage will be moved across to this service.
Users of Hotmail Plus will also be able to send messages with attachments up to 20MB in size....