The 24-year-old has moved between the League One rivals for an undisclosed fee, and will hope to boost the Molineux outfit's chances of an instant return to the Championship.
Manager Kenny Jackett expressed his delight at securing McDonald's services, citing the Scot's youth and knowledge of the league as important factors in his arrival.
"At 24, Kevin has already had good experience at both Burnley and Sheffield United, but is also a player with his best years ahead of him," he said.
"He is a ball-playing midfielder who is composed on the ball in possession and I am very pleased that we have added him to the squad.
"He is my second signing since arriving at the club, and I feel that in that midfield area he will prove a crucial one."
McDonald spent three years with Sheffield United, making 91 appearances in total.
He started and scored in the club's 2-1 win over Notts County on the opening day of the 2013-14 season.
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