Newton-John's niece Tottie Goldsmith accepted the offer on the family's behalf when speaking with Victorian Premier Daniel Andrews on Thursday morning.
A venue and date for the service have yet be announced, with further discussions under way between the family and the premier's department.
But Mr Andrews flagged the event will be more of a concert than a traditional funeral service.
"The family were quite touched at the prospect of Victorians being able to come together and celebrate Olivia's life," Mr Andrews said.
"As tough as this time is ... it's made a little easier by all the outpouring of grief and support, and the very fond memories people are sharing of such an amazing person."
The actress, singer and activist was reportedly planning to write an introductory letter to new Victorian Health Minister Mary-Anne Thomas, federal Health Minister Mark Butler and Prime Minister Anthony Albanese to push for greater access to medicinal cannabis.
Ms Thomas said she had not received any correspondence from Newton-John but was aware of her passion to support people living in pain with cancer and other chronic illnesses.
She noted medicinal cannabis is available to be prescribed where appropriate to Victorians by their doctors and clinicians.
British-born, Melbourne-raised Newton-John died in her sleep at her California home on Monday aged 73.
Best known for her role alongside John Travolta in the smash movie musical Grease, she endured a recurring battle with breast cancer.
Her husband John Easterling posted a tribute on Newton-John's Instagram page overnight.
"Our love for each other transcends our understanding. Every day we expressed our gratitude for this love that could be so deep, so real, so natural," he wrote.
"We were in awe of this great mystery and accepted the experience of our love as past, present and forever. At Olivia's deepest essence she was a healer using her mediums of song, of words, of touch.
"She was the most courageous woman I've ever known. Her bandwidth for genuinely caring for people, for nature and all creatures almost eclipses what is humanely possible."
He ended his message thanking the "vast ocean of love and support that has come our way".
Newton-John battled breast cancer three times throughout her life after first being diagnosed in 1992.
Her experience led her to create the Olivia Newton-John Foundation to fund research into cancer therapies.
She also founded the Olivia Newton-John Cancer Wellness and Research Centre in Melbourne, which supports people living with the disease.
Newton-John was admitted to the Australian Recording Industry Association Hall of Fame in 2002 and made a Companion of the Order of Australia in 2019.
Across Australia on Tuesday night, famous landmarks - including the Sydney Opera House, Melbourne's Flinders Street Station and the MCG, and Optus Stadium in Perth - were bathed in pink light as tribute to her contribution to breast cancer awareness.
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