Gaddis was born in Manhattan to William Thomas Gaddis, who worked "on Wall Street and in politics," and Edith Gaddis, an executive for the New York Steam Corporation. When he was 3, his parents separated and Gaddis was subsequently raised by his mother in Massapequa, Long Island. At age 5 he was sent to Merricourt Boarding School in Berlin, Connecticut. He continued in private school until the eighth grade, after which he returned to Long Island to receive his diploma at Farmingdale High School in 1941. He entered Harvard in 1941 and famously wrote for the Harvard Lampoon (and where he eventually served as President), but was asked to leave in 1944, after a drunken brawl. He worked as a fact checker for The New Yorker for two years, then spent five years traveling in Central America, the Caribbean, North Africa, and Paris, returning to the United States in 1951.

His first novel, The Recognitions, appeared in 1955. A lengthy, complex, and allusive work, it had to wait to find its audience. Newspaper reviewers considered it overly intellectual, overwritten, and perhaps on the principle of omne ignotum per obscaenum, filthy. (The book was defended by Jack Green in a series of broadsheets blasting the critics, which was collected later under the title Fire the Bastards!) Shortly after its publication, Gaddis married his first wife, Patricia Black, who would give birth to his only children: Sarah and Matthew.

Gaddis then turned to public relations work and the making of documentary films to support himself and his family. In this role he worked for Pfizer International, Eastman Kodak, IBM, and the United States Army, among others. He also received a National Institute of Arts and Letters grant, a Rockefeller grant and two National Endowment for the Arts grants, all of which helped him write his second novel. In 1975 he published J R, an even more difficult work than The Recognitions, told entirely in dialogue, with no direct indication of who is speaking at any given time. Its eponymous protagonist, an 11-year-old, learns enough about the stock market from a class field trip to build a financial empire of his own. Critical opinion had caught up with him, and the book won the National Book Award. A few years later the hugely successfully television show Dallas featured a tycoon named "JR," albeit somewhat older, and the real-life market of the '80s and since has borne an alarming resemblance to some of the machinations described here. His marriage to his second wife, Judith Thompson, dissolved shortly after the book was published. By the late 1970s, Gaddis had entered into a relationship with Muriel Oxenberg Murphy, and they lived together until the mid-1990s.

Carpenter's Gothic (1985) offered a shorter and more accessible picture of Gaddis's sardonic worldview. The continuing litigation that was a theme in that book takes center place in A Frolic of His Own (1994)--which earned him his second National Book Award, and an American Book Award--where it seems that everyone is suing someone. There is even a Japanese car called the Sosumi. (Gaddis has never been afraid of the pun. There is a character in The Recognitions named Recktall Brown.)

Gaddis died of prostate cancer on December 16, 1998, but not before creating his final work, Agapē Agape (the first word of the title is the Greek agapē, meaning divine, unconditional love), which was published in 2002, a novella in the form of the last words of a character similar but not identical to his creator. The Rush for Second Place, published at the same time, collected most of Gaddis's previously published nonfiction.

After years of critical neglect, Gaddis is now often acknowledged as being one of the greatest of American post-war novelists. His influence is vast (although frequently subterranean): for example, it is clear that authors such as Don DeLillo and Thomas Pynchon have been influenced by Gaddis. He has received the following awards and honorary positions: the MacArthur Foundation’s "genius award" (1982); elected to the American Academy and Institute of Arts and Letters (1989); the Lannan Literary Award for Lifetime Achievement (1993). His papers are collected at Washington University in St. Louis.