Rossi, one of the sport's greats with nine world championships across all classes, swept to the front when Marquez came off his bike on the 19th lap, to beat compatriot and teammate Jorge Lorenzo and Britain's Bradley Smith in an all-Yamaha podium.
It was a popular victory for the 35-year-old Italian, who celebrated his 250th premier-class race with his 82nd victory at one of his favourite tracks.
It was Rossi's sixth premier-class win at Phillip Island and his first since 2005 to extend his phenomenal record to 15 podium finishes in 18 trips to Australia.
Marquez, who clinched back-to-back world titles last weekend in Japan, had looked set comfortably to win his first MotoGP at Phillip Island with a massive four-second advantage on his dominant Repsol Honda bike.
But the Spanish ace lost control of his front wheel on lap 19 of the 27-lap race at the bottom of Lukey Heights and crashed out unharmed, leaving Rossi to take over and go on to win by 10.836 seconds.
"When I saw Marquez crash it was a surprise, and to finish first at Phillip Island after my last victory here in 2005 is a great achievement," said Rossi.
Rossi's victory pushed him to an eight-point lead over Lorenzo in the fight for second place in the world championship standings behind Marquez, with two races remaining at Sepang and Valencia.
"I was focused on the second place in the championship and I am able to gain some points over Jorge, but it's so close with two races to the end," said Rossi.
Last year's winner Lorenzo was critical of his Bridgestone tyres and said he was lucky to finish the race.
"It's a fantastic result for Yamaha, it's been a long time,” he said. “But to be honest, I'm very disappointed because you work hard for the best set-up of the bike. But sometimes you get this type of tyres that are a complete disaster.”
Like Sports on Facebook, follow @ETribuneSports on Twitter to stay informed and join in the conversation.
COMMENTS
Comments are moderated and generally will be posted if they are on-topic and not abusive.
For more information, please see our Comments FAQ