Vittorio Arrigoni, a pro-Palestinian activist was found in dead in a house north of Gaza City, the Hamas government's press office said in a statement.
Hamas said 36-year-old Arrigoni had been hanged, but other reports said he died by suffocation.
Two suspects have been arrested over his murder while a third person managed to flee when Hamas security agents raided the house. Security officials were looking for accomplices.
"We express our great upset at this barbaric murder of our compatriot and send heartfelt condolences to the victim's family," Italy's foreign ministry said.
"We condemn in the strongest terms this vile and irrational act of violence by extremistswho are indifferent to the value of human life," the statement added.
In its statement, Hamas denounced "the criminal kidnapping and murder of an Italian solidarity activist".
The pro-Palestinian International Solidarity Movement which Arrigoni worked for said on its website it was "shocked and deeply saddened by the killing of our friend and colleague".
Arrigoni's murder followed his abduction late on Thursday. In a YouTube clip posted earlier by his abductors, Arrigoni was shown blindfolded with a bloody right eye and a hand could be seen pulling his head up by his hair to face the camera.
In the video, the kidnappers said Arrigoni had been taken hostage in order to secure the release of an unspecified number of their members detained by Hamas security forces, including a jihadist leader called Sheikh Hisham al-Suedani.
The accompanying Arabic text said: "The Italian hostage entered our land only to spread corruption." It describe Italy as "the infidel state".
The kidnappers, who identified themselves as Salafists belonging to The Brigade of the Gallant Companion of the Prophet Mohammed bin Muslima, said they would execute Arrigoni if their demands were not met by 5:00 pm (1400 GMT) on Friday.
It was unclear why the militants killed Arragoni before the expiry of the deadline.
A native of Italy's northern Lombardy region, Arrigoni had been living in the Gaza Strip for much of the past three years and had been active in the Palestinian cause for nearly a decade.
Arrigoni is the third member of the International Solidarity Movement to be killed in Gaza, after two other activists were killed there by the Israeli military.
In 2007, another Salafite group in Gaza, the Salafite Army of Islam, claimed responsibility for the kidnapping of BBC reporter Alan Johnston. Hamas severed ties with the group and freed Johnston after four months in captivity.