The Trust reached its decision after conducting a public value test, which included a Public Value Assessment of the broader value of the proposed service, and a Market Impact Assessment, carried out by Ofcom, which looked at the impact on commercial providers.
Sir Michael Lyons, chairman of the BBC Trust, said: "It is clear from the evidence that, although licence fee payers want better regional and local services from the BBC, this proposal is unlikely to achieve what they want.
"We also recognise the negative impact that the local video proposition could have on commercial media services, which are valued by the public and are already under pressure.
"We believe the BBC's priority should be improving the quality of existing services. The public wants better quality regional television news programmes and more programmes of all kinds produced in and reflecting their areas.
"We would expect BBC management to consider carefully the conclusions of this public value test before returning to us with new proposals.
"Our decision today to refuse permission for local video means that local newspapers and other commercial media can invest in their online services in the knowledge that the BBC does not intend to make this new intervention in the market."
The BBC management accepted the findings and issued the following statement in response: "In its ruling this morning, the BBC Trust challenged BBC management to instead [of the proposed service], improve its existing services to ensure audiences across the UK see a better reflection of their local communities.
"That is a challenge we will pursue with vigour.
"We will consider a range of options for how we can best achieve this and will return to the Trust in due course."
The BBC had proposed to upgrade its 'BBC Local' websites and add video footage to its stories, covering local news, sports and weather in 60 areas across the UK, with an additional five Welsh language sites.
The proposed service was to have around 400 staff and a total budget of £68m covering a four-year period from launch.
Media regulator Ofcom conducted a Market Impact Assessment of the proposed service and concluded that it would have "a significant negative impact on commercial providers".
The MIA revealed that if the BBC Local video services were launched, then annual revenues from existing commercial providers would fall by up to 4%.
Ofcom also found that the launch of BBC Local Video services would have significant negative impact on future innovation in online local news, sports, and weather services by the commercial sector, particularly newspapers.
The watchdog said: "Commercial providers have strong ambitions to develop these parts of their businesses, despite commercial uncertainties. There is already a prevalence of local news sites across the country."
Ofcom also considered potential modifications to the BBC's proposals that might reduce their negative market impact. It concluded that the modifications "would not offset the negative impacts that the BBC Local video services would have on other providers".
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