The 9th US Circuit Court of Appeals said it would not block a lower-court ruling that halted the order.
Mr Trump responded with an angry tweet saying national security was at risk and there would be a legal challenge.
But the unanimous 3-0 ruling said the government had not proved the terror threat justified the ban.
The ruling means that people from Iran, Iraq, Libya, Somalia, Sudan, Syria and Yemen with visas can continue to enter the US.
And refugees from around the world, who were also subject to a temporary ban, are no longer blocked either.
The case is now likely to end up at the highest court, the US Supreme Court.
They rejected the argument, made by the Justice Department on behalf of the US government, that the president had sole discretion to set immigration policy.
The court also said there was "no evidence that any alien from any of the countries named in the order" had committed a terror attack in the US.
They said both sides had made compelling cases.
"On the one hand, the public has a powerful interest in national security and in the ability of an elected president to enact policies.
"And on the other, the public also has an interest in free flow of travel, in avoiding separation of families, and in freedom from discrimination."
But the law stripped foreign arrivals of their rights under the Constitution.
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