Turkey expelled Israel's Ambassador and suspended all military agreements over its refusal to apologize for last year's raid on a Gaza-bound flotilla.
This came as the UN published a report saying that Israeli commandos used excessive force when they boarded an aid ship. Nine Turkish activists died.
Turkish Foreign Minister Ahmet Davutoglu said it was "time Israel pays a price for its illegal actions".
Israel has refused to apologies and said its troops acted in self-defense.
"Israel, like any other country, has a legitimate right to protect its citizens and soldiers," an Israeli government official told the BBC.
The report was leaked to the New York Times on Thursday, the day before it was delivered to UN Secretary General Ban Ki-moon's office.
The nine pro-Palestinian activists who died were on board the Turkish-flagged ship, Mavi Marmara, when it was intercepted by the Israeli navy in international waters as sailed towards Gaza's coast on 31 May 2010.
At the time, the Israeli military said its commandos fired live rounds only after being attacked with clubs, knives and guns. But activists on board said the commandos started shooting as soon as they hit the deck.
The UN inquiry chaired by former New Zealand Prime Minister Geoffrey Palmer found the Israeli troops faced "significant, organized and violent resistance from a group of passengers" and were therefore required to use force for their own protection.
But it said Israel's decision to board the vessels "with such substantial force at a great distance from the blockade zone and with no final warning immediately prior to the boarding was excessive and unreasonable".
The report noted "forensic evidence showing that most of the deceased were shot multiple times, including in the back, or at close range".
The inquiry also found Israel's naval blockade "was imposed as a legitimate security measure in order to prevent weapons from entering Gaza by sea and its implementation complied with the requirements of international law".
The report was completed months ago, but its publication was delayed several times as Turkey and Israel attempted to repair their diplomatic relations, which have been frozen since the flotilla incident.