Farming in the area began around 1895, with settlement accelerating after a ferry service was established across the Red Deer River in 1906 (followed by a ferry bridge in 1908).

Early homesteader and general store owner John Percy McBeath attempted to name the local post office "Percyville" after his middle name. However, the local postal inspector opted instead to name it Dorothy, after Dorothy Wilson—the first white baby born in the district and the daughter of local ranchers Jack and Eliza Wilson. The Post office opened on February 1, 1908. The first postmaster was J.P. McBeath, who held the position until 1917.

The region experienced a boost from nearby coal mining discoveries (such as the Atlas Mine), and Dorothy reached a peak population of around 100 residents. In 1928, the Alberta Pacific Grain Company built a grain elevator connected to Canadian Pacific Railway lines. The community built two notable churches out of repurposed materials: the United Church (formed in 1930 by moving a $50 farmhouse, featuring a fundraiser attended by famous suffragette Nellie McClung in 1931) and the Church of Our Lady of Perpetual Help (established in 1944 using a disused schoolhouse bought for $50). A general store (Mashon Bros. Store) and the Dorothy School opened in the 1930s.