diff --git a/news/2 Fixes/16984.md b/news/2 Fixes/16984.md
new file mode 100644
index 000000000000..3672244c69c9
--- /dev/null
+++ b/news/2 Fixes/16984.md	
@@ -0,0 +1 @@
+Ensure debug configuration env variables overwrite env variables defined in .env file.
diff --git a/src/client/common/variables/environment.ts b/src/client/common/variables/environment.ts
index 60042c9b452c..bce6d2ca17e9 100644
--- a/src/client/common/variables/environment.ts
+++ b/src/client/common/variables/environment.ts
@@ -36,7 +36,11 @@ export class EnvironmentVariablesService implements IEnvironmentVariablesService
         return parseEnvFile(contents, baseVars);
     }
 
-    public mergeVariables(source: EnvironmentVariables, target: EnvironmentVariables) {
+    public mergeVariables(
+        source: EnvironmentVariables,
+        target: EnvironmentVariables,
+        options?: { overwrite?: boolean },
+    ) {
         if (!target) {
             return;
         }
@@ -45,7 +49,7 @@ export class EnvironmentVariablesService implements IEnvironmentVariablesService
             if (settingsNotToMerge.indexOf(setting) >= 0) {
                 return;
             }
-            if (target[setting] === undefined) {
+            if (target[setting] === undefined || options?.overwrite) {
                 target[setting] = source[setting];
             }
         });
diff --git a/src/client/common/variables/types.ts b/src/client/common/variables/types.ts
index b9148d052c54..d5a5e76e4d85 100644
--- a/src/client/common/variables/types.ts
+++ b/src/client/common/variables/types.ts
@@ -9,7 +9,7 @@ export const IEnvironmentVariablesService = Symbol('IEnvironmentVariablesService
 
 export interface IEnvironmentVariablesService {
     parseFile(filePath?: string, baseVars?: EnvironmentVariables): Promise<EnvironmentVariables | undefined>;
-    mergeVariables(source: EnvironmentVariables, target: EnvironmentVariables): void;
+    mergeVariables(source: EnvironmentVariables, target: EnvironmentVariables, options?: { overwrite?: boolean }): void;
     appendPythonPath(vars: EnvironmentVariables, ...pythonPaths: string[]): void;
     appendPath(vars: EnvironmentVariables, ...paths: string[]): void;
 }
diff --git a/src/client/debugger/extension/configuration/resolvers/helper.ts b/src/client/debugger/extension/configuration/resolvers/helper.ts
index 510792c3c72a..711d1c3ce4fc 100644
--- a/src/client/debugger/extension/configuration/resolvers/helper.ts
+++ b/src/client/debugger/extension/configuration/resolvers/helper.ts
@@ -28,7 +28,10 @@ export class DebugEnvironmentVariablesHelper implements IDebugEnvironmentVariabl
             args.env && Object.keys(args.env).length > 0 ? ({ ...args.env } as any) : ({} as any);
         const envFileVars = await this.envParser.parseFile(args.envFile, debugLaunchEnvVars);
         const env = envFileVars ? { ...envFileVars } : {};
-        this.envParser.mergeVariables(debugLaunchEnvVars, env);
+
+        // "overwrite: true" to ensure that debug-configuration env variable values
+        // take precedence over env file.
+        this.envParser.mergeVariables(debugLaunchEnvVars, env, { overwrite: true });
 
         // Append the PYTHONPATH and PATH variables.
         this.envParser.appendPath(env, debugLaunchEnvVars[pathVariableName]);
diff --git a/src/client/debugger/extension/configuration/resolvers/launch.ts b/src/client/debugger/extension/configuration/resolvers/launch.ts
index a3f8e8bd7e58..4d95cde387fa 100644
--- a/src/client/debugger/extension/configuration/resolvers/launch.ts
+++ b/src/client/debugger/extension/configuration/resolvers/launch.ts
@@ -103,6 +103,7 @@ export class LaunchConfigurationResolver extends BaseConfigurationResolver<Launc
         // set the "env" debug configuration argument. This expansion should be
         // done here before handing of the environment settings to the debug adapter
         debugConfiguration.env = await this.debugEnvHelper.getEnvironmentVariables(debugConfiguration);
+
         if (typeof debugConfiguration.stopOnEntry !== 'boolean') {
             debugConfiguration.stopOnEntry = false;
         }
diff --git a/src/test/common/variables/envVarsService.unit.test.ts b/src/test/common/variables/envVarsService.unit.test.ts
index 38a4f678c2da..4965da881b5c 100644
--- a/src/test/common/variables/envVarsService.unit.test.ts
+++ b/src/test/common/variables/envVarsService.unit.test.ts
@@ -194,7 +194,7 @@ PYTHON=${BINDIR}/python3\n\
                 verifyAll();
             });
 
-            test('Ensure path variables variables in target are left untouched', async () => {
+            test('Ensure path variables in target are left untouched', async () => {
                 const vars1 = { ONE: '1', TWO: 'TWO' };
                 const vars2 = { ONE: 'ONE', THREE: '3', PYTHONPATH: 'PYTHONPATH' };
 
@@ -211,6 +211,24 @@ PYTHON=${BINDIR}/python3\n\
                 expect(vars2).to.have.property(pathVariable, 'PATH', 'Incorrect value');
                 verifyAll();
             });
+
+            test('Ensure path variables in target are overwritten', async () => {
+                const source = { ONE: '1', TWO: 'TWO' };
+                const target = { ONE: 'ONE', THREE: '3', PYTHONPATH: 'PYTHONPATH' };
+
+                (target as any)[pathVariable] = 'PATH';
+
+                variablesService.mergeVariables(source, target, { overwrite: true });
+
+                expect(Object.keys(source)).lengthOf(2, 'Source variables modified');
+                expect(Object.keys(target)).lengthOf(5, 'Variables not merged');
+                expect(target).to.have.property('ONE', '1', 'Expected to be overwritten');
+                expect(target).to.have.property('TWO', 'TWO', 'Incorrect value');
+                expect(target).to.have.property('THREE', '3', 'Variable not merged');
+                expect(target).to.have.property('PYTHONPATH', 'PYTHONPATH', 'Incorrect value');
+                expect(target).to.have.property(pathVariable, 'PATH', 'Incorrect value');
+                verifyAll();
+            });
         });
     });