Egyptian Christians say they will demand compensation
Twenty Christians and one Muslim were killed after violence broke out in the town of el-Kosheh, 440 kilometres (275 miles) south of Cairo, following a dispute between a Muslim and a Christian.
Out of 96 people originally charged in connection with the worst sectarian fighting in Egypt for decades, only four - all Muslims - were jailed, although none for murder.
The initial verdict had angered Egypt's Coptic Christian community, who said it served as a green light for Muslims to kill them.
The court did not say why it was reversing the earlier ruling.
The decision was welcomed by the country's Christian leaders.
"We think justice can now prevail," Coptic Christian Bishop Wissa told the Associated Press news agency.
"There were killers and there were victims and we only want to know who was who," he added.
Quarrel over money
The violence broke out on 31 December, 1999, after a row over money between a shop-owner and a customer.
Fighting spread to the nearby village of Dar el-Salam, where the Christians and Muslim were killed in a massacre on 2 January, 2000.
The judge in the first trial, Mohammed Affifi, said it was not possible to identify which defendants had been responsible for which actions.
He also accused three Coptic priests of failing to stop the quarrel which sparked the trouble.
The BBC's Heba Saleh in Egypt says there is speculation Judge Affifi opted for a lenient verdict to avoid inflaming sectarian tensions.
A Coptic lawyer involved in the case, Mamduh Nakhla, welcomed the decision to overrule the lower court's verdict.
Mr Nakhla told the French news agency AFP: "We (Copts) think it restores trust in the Egyptian justice system and law...The retrial will give us an opportunity to submit new evidence against the accused. Also we can demand compensation."