Labour is to announce a dramatic policy shift by backing continued membership of the EU single market beyond March 2019, when Britain leaves the EU, establishing a clear dividing line with the Tories on Brexit for the first time.

In a move that positions it decisively as the party of “soft Brexit”, Labour will support full participation in the single market and customs union during a lengthy “transitional period” that it believes could last between two and four years after the day of departure, it is to announce on Sunday.

This will mean that under a Labour government the UK would continue to abide by the EU’s free movement rules, accept the jurisdiction of the European court of justice on trade and economic issues, and pay into the EU budget for a period of years after Brexit, in the hope of lessening the shock of leaving to the UK economy. In a further move that will delight many pro-EU Labour backers, Jeremy Corbyn’s party will also leave open the option of the UK remaining a member of the customs union and single market for good, beyond the end of the transitional period.

Permanent long-term membership would only be considered if a Labour government could by then have persuaded the rest of the EU to agree to a special deal on immigration and changes to freedom of movement rules.

The announcement, revealed in the Observer by the shadow Brexit secretary, Keir Starmer, means voters will have a clear choice between the two main parties on the UK’s future relations with the EU after a year in which Labour’s approach has been criticised for lacking definition and appeared at times hard to distinguish from that of the Tories.

The decision to stay inside the single market and abide by all EU rules during the transitional period, and possibly beyond, was agreed after a week of intense discussion at the top of the party. It was signed off by the leadership and key members of the shadow cabinet on Thursday, according to Starmer’s office.

The new policy will inevitably be presented by Brexit supporters as evidence Labour is ready to betray the will of the people as expressed in last year’s referendum, which delivered a narrow victory for Leave. And it sets the stage for incendiary arguments with the government on 7 September, when the European Union (withdrawal) bill returns to the Commons for its second reading.

Pro-EU Tory MPs, who also support remaining in the single market, will be put under intense pressure by Labour to fall in behind its position and rebel against their own party. If significant numbers were to do so, Theresa May’s already shaky grip on power would be seriously threatened.

Liam Fox, the international trade secretary, and Philip Hammond, the chancellor, recently made clear that the UK would leave the customs union, as well as the single market, during a transitional period immediately after Brexit.

Starmer says the time for “constructive ambiguity” is over. “Labour would seek a transitional deal that maintains the same basic terms that we currently enjoy with the EU. That means we would seek to remain in a customs union with the EU and within the single market during this period. It means we would abide by the common rules of both.”

He says the Tory position of leaving the single market and customs union would be “unnecessary and a highly risky path to take”. Starmer adds: “We will always put jobs and the economy first. That means remaining in a form of customs union with the EU is a possible end destination for Labour, but that must be subject to negotiations. It also means that Labour is flexible as to whether the benefits of the single market are best retained by negotiating a new single market relationship or by working up from a bespoke trade deal.”

Starmer has been coming under ever increasing pressure from a group of pro-EU MPs and activists within his party. MPs Heidi Alexander and Alison McGovern have launched an online campaign demanding unequivocal support, launched a website and published a motion for members to submit for debate at next month’s party conference in Brighton, via their constituency Labour parties. “The Labour party is serious about protecting jobs, tackling austerity and defending the rights of workers and consumers, so staying part of the customs union and in the European Economic Area is a no-brainer,” said the two MPs. “Labour must be able to deliver the ambitious programme of investment in public services which we put to the electorate in 2017.”

Labour’s new approach was announced as Brexit secretary David Davis prepared for the latest round of talks on the UK’s departure with his EU counterpart Michel Barnier, which will take place in Brussels.