Australia, a staunch ally of the United States and its battle against Islamic militants in Iraq and Syria, has been on heightened alert for attacks by home-grown radicals since last year.
The teenager was shot dead by police on Friday afternoon after he gunned down, at close range, a police employee leaving the headquarters of the New South Wales Police, police and witnesses said.
Police said they had as coming from an Iraqi-Kurdish background, and having been born in Iran.
"We believe his actions were politically motivated and therefore linked to terrorism," New South Wales Police Commissioner Andrew Scipione told reporters.
The boy was previously unknown to police or counter-terrorism officials, he added.
The victim was named as Curtis Cheng, a 17-year veteran of the NSW Police, who worked in the finance department.
Parramatta shooting victim Curtis Cheng (left) with family. Source: Supplied
"There's no doubt that this tragedy will echo around the world, as people try and understand how someone so young could admit such a hideous crime," New South Wales Premier Mike Baird said.
In September, police shot dead a Melbourne teenager after he stabbed two counter terrorism officers, while in December, two hostages were killed when police stormed a central Sydney cafe to end a 17-hour siege.
On Friday, a 15-year-old British boy was sentenced to life in prison for inciting an attack on a World War One commemorative event in Australia from his bedroom in northern England.
The discovery of the boy's actions sparked a massive police operation in Melbourne that led to the arrest of five teenagers there who were planning an Islamic State-inspired attack, authorities said.
Australians urged not to vilify the Muslim community
Prime Minister Malcolm Turnbull urged Australians not to vilify the Muslim community.
"This appears to have been an act of politically motivated violence, so, at this stage, it appears to have been an act of terrorism," Turnbull told reporters in Melbourne.
"We must not vilify or blame the entire Muslim community for the actions of what is, in truth, a very, very small percentage of violent extremist individuals."
Security authorities estimate at least 70 Australians have joined militant forces in the Middle East with another 100 or more Australian-based facilitators and supporters.
Radicalisation a global issue: Scipione
Australia is constantly working to find a solution to the radicalisation of teenagers, NSW Police Commissioner Andrew Scipione says.
Mr Scipione said finding an answer to teenage radicalisation was "the global question at the moment".
"We just need to work out what it is that we can do to make this effective," he said.
However, he reminded people that these attacks were the acts of a small minority.
"Simply because a person is of the Muslim faith doesn't mean they are a terrorist. We shouldn't be treating entire communities like they are all suspects, because that's simply not the case," he said.
Mr Scipione said leaders within the Muslim community had also condemned the shooting and were helping police.
"We will work with the community (and) continue to engage to look for solutions to these most difficult problems. We can never ever give up on that."
Prime Minister Malcolm Turnbull echoed Mr Scipione's thoughts saying any efforts to blame or vilify the Muslim community would be utterly counterproductive.
"The Muslim community are our absolutely necessary partners in combating this type of violent extremism," Mr Turnbull said.