The hotline is used to facilitate the travel of South Korean workers to a joint industrial complex in Kaesong.
Pyongyang has been angered by fresh UN sanctions following its 12 February nuclear test and US-South Korea military drills.
In recent weeks its habitually fiery rhetoric has escalated, with multiple warnings issued.
On Tuesday, it said it had ordered artillery and rocket units into "combat posture" to prepare to target US bases in Hawaii, Guam and the US mainland.
It has also threatened a "pre-emptive" nuclear strike against the US in recent days and told the South it has scrapped the Korean War armistice agreement.
US Pentagon spokesman George Little said on Tuesday that North Korea's threats "followed a pattern designed to raise tensions" and that North Korea would "achieve nothing by these threats".
'No need'
North Korea has already cut both a Red Cross hotline and another used to communicate with the UN Command at Panmunjom in the Demilitarised Zone that divides the two Koreas.
The military hotline is used by the two sides to communicate over travel to the Kaesong joint industrial zone, inside North Korea.
"Under the situation where a war may break out any moment, there is no need to keep up North-South military communications," a senior North Korean military official was quoted by KCNA news agency as telling the South before the line was severed.
An inter-Korean air-traffic hotline also exists between the two sides.
The move came as South Korean President Park Geun-hye set out policies towards the North "designed to establish peace and a foundation for reunification by building and restoring trust".
"Without rushing and in the same way that we would lay one brick after another, based on trust, (we) will have to develop South-North relations step by step and create sustainable peace," Yonhap news agency quoted her as saying.
She has spoken in the past of a desire for more dialogue with North Korea but current tensions are obstructing movements to improve ties.
In a statement on Wednesday carried by KCNA, North Korea told Ms Park that a "wrong word" from her could entail "horrible disaster at a time when the North-South relations are being pushed to the lowest ebb".
Late on Tuesday, North Korean state-run media also reported that its top political bureau would soon hold a rare meeting to discuss "an important issue for victoriously advancing the Korean revolution". It did not specify the issue, or the date of the meeting.
Overnight, meanwhile, South Korea briefly placed a border military unit on its highest alert, in an indication of the heightened tensions.
The alert happened early on Wednesday after a South Korean soldier discovered a "strange object" at the border, military officials said. The alert prepares troops for a possible incursion from North Korea.
The soldier, who was at a military post in Hwacheon, in South Korea's north-eastern Gangwon province, threw a grenade at the object at around 02:30 local time (17:30 GMT), officials said. The alert was lifted at 09:20 local time.-British Broadcasting Corporation (March 27, 2013)
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