Likud stalwart and foreign minister, Silvan Shalom, warned dissident members that their rebellion risked tearing the government apart before the next election is due in November 2006.
“We cannot go on like this. If the prime minister cannot get the support of his own party, there is no other choice than early elections,” Mr Shalom said.
Despite a week of negotiations, Mr Sharon was unable to bring key party members around.
He lost the vote 60 to 54.
Around a dozen Likud MPs had earlier met the prime minister to outline their objections to two of the appointments – that of Zeev Boim as immigration minister and Roni Bar-On as minister for trade and industry.
“The prime minister wants to appoint these two because they served him through all the democratic manipulations he has been involved in,” rebel Likud MP Uzi Landau said.
Mr Boim and Mr Bar-On have earned the enmity of Likud hardliners after supporting the prime minister’s unprecedented move to end Israel’s 38-year occupation of the Gaza Strip this year.
Mr Sharon’s third appointment was that of close confidant Ehud Olmert, chosen to replace rival Benjamin Netanyahu as finance minister after he left the post in protest over the Gaza pullout.
In an extraordinary Knesset session, Mr Olmert’s nomination was put forward separately and approved.
But a vote on the Boim and Bar-On appointments have been put on hold with Mr Sharon seeking to avoid a crisis and the chance of elections being called early.
There has been some speculation that Likud’s ongoing internal wrangling could see the prime minister quit the party to form his own centrist party and capitalise on broad public support for the Gaza withdrawal.