Abu Omar al-Shishani, who the Pentagon described as Islamic State's "minister of war," was killed in combat in the Iraqi city of Shirqat, south of Mosul, a news agency that supports the militant group said on Wednesday.
The Pentagon said in March that Shishani had likely been killed in a U.S. air strike in Syria, but this was the first time the group appeared to confirm his death.
Reuters could not independently verify the statement from Amaq news agency, which Islamic State regularly uses to issue reports and which denied Shishani's death after the Pentagon's comments in March.
Islamic State supporters exchanged notes of praise and condolence on social media, including pictures of the ginger-bearded fighter, and pledged to launch a fresh offensive in his honor.
Officials at the Pentagon said they were aware of Wednesday's report but could not confirm or deny it.
Hisham al-Hashimi, a Baghdad-based security expert who advises the Iraqi government, said a source in Shirqat confirmed Shishani had been killed there along with several other militants.
Iraqi forces are advancing towards Mosul, the largest city still under the control of Islamic State. They have mostly surrounded Shirqat, 250 km (160 miles) north of Baghdad, and last week retook a major air base from the militants to use in the main push on Mosul, 60 km further north.
But Rami Abdelrahman, head of the British-based Syrian Observatory for Human Rights, said Shishani had been wounded in March and died soon after in the countryside east of Raqqa.
"I confirmed from the doctor who went to see him," said Abdelrahman, who tracks the war in Syria through a network of contacts. He told Reuters Islamic State likely delayed announcing his death to allow time to line up a successor.
Shishani, also known as Omar the Chechen, ranked among America's most wanted militants under a U.S. program that offered up to $5 million for information to help remove him from the battlefield.
Born in 1986 in Georgia, then still part of the Soviet Union, Shishani had a reputation as a close military adviser to Islamic State leader Abu Bakr al-Baghdadi, who was said by followers to have relied heavily on him.
Shishani once fought in military operations as a rebel in Chechnya before joining Georgia's military in 2006 and fighting against Russian troops before being discharged two years later for medical reasons, according to U.S. officials.
He was arrested in 2010 for weapons possession and spent more than a year in jail, before leaving Georgia in 2012 for Istanbul and later Syria.
He decided to join Islamic State the following year and pledged his allegiance to Baghdadi. The State Department said Shishani was identified as Islamic State's military commander in a video distributed by the group in 2014.