The companies said they expect the deal to close by the end of 2012.

AOL said it will determine the "most efficient and effective" way to return a "significant portion" of the sale proceeds to shareholders.

In the wake of the transaction, analysts at Miller Tabak raised their price target on AOL to $30.

Shares of AOL soared 35.99% to $25.05 ahead of Monday's open on the announcement. On the other hand, shares of Microsoft retreated 1.02% to $31.20 amid a 1.1% drop on the S&P 500 futures. 

AOL said even after the sale, it will still hold on to a significant patent portfolio, including more than 300 patents and patent applications.

The deal with Microsoft also includes AOL unloading shares of an unspecified subsidiary that the company expects to record a capital loss on.

Goldman Sachs (NYSE:GS) and Evercore Partners (NYSE:EVR) served as financial advisers to AOL on the deal.