A severe acute respiratory syndrome coronavirus 2 (SARS-CoV-2) infection causes mild-to-severe respiratory symptoms, including acute respiratory distress. Despite remarkable efforts to investigate the virological and pathological impacts of SARS-CoV-2, many of the characteristics of SARS-CoV-2 infection still remain unknown. The interferon-inducible ubiquitin-like protein ISG15 is covalently conjugated to several viral proteins to suppress their functions. It was reported that SARS-CoV-2 utilizes its papain-like protease (PLpro) to impede ISG15 conjugation, ISGylation. However, the role of ISGylation in SARS-CoV-2 infection remains unclear. We aimed to elucidate the role of ISGylation in SARS-CoV-2 replication. We observed that the SARS-CoV-2 nucleocapsid protein is a target protein for the HERC5 E3 ligase-mediated ISGylation in cultured cells. Site-directed mutagenesis reveals that the residue K374 within the C-terminal spacer B-N3 (SB/N3) domain is required for nucleocapsid-ISGylation, alongside conserved lysine residue in MERS-CoV (K372) and SARS-CoV (K375). We also observed that the nucleocapsid-ISGylation results in the disruption of nucleocapsid oligomerization, thereby inhibiting viral replication. Knockdown of ISG15 mRNA enhanced SARS-CoV-2 replication in the SARS-CoV-2 reporter replicon cells, while exogenous expression of ISGylation components partially hampered SARS-CoV-2 replication. Taken together, these results suggest that SARS-CoV-2 PLpro inhibits ISGylation of the nucleocapsid protein to promote viral replication by evading ISGylation-mediated disruption of the nucleocapsid oligomerization.IMPORTANCEISG15 is an interferon-inducible ubiquitin-like protein that is covalently conjugated to the viral protein via specific Lys residues and suppresses viral functions and viral propagation in many viruses. However, the role of ISGylation in SARS-CoV-2 infection remains largely unclear. Here, we demonstrated that the SARS-CoV-2 nucleocapsid protein is a target protein for the HERC5 E3 ligase-mediated ISGylation. We also found that the residue K374 within the C-terminal spacer B-N3 (SB/N3) domain is required for nucleocapsid-ISGylation. We obtained evidence suggesting that nucleocapsid-ISGylation results in the disruption of nucleocapsid-oligomerization, thereby suppressing SARS-CoV-2 replication. We discovered that SARS-CoV-2 papain-like protease inhibits ISG15 conjugation of nucleocapsid protein via its de-conjugating enzyme activity. The present study may contribute to gaining new insight into the roles of ISGylation-mediated anti-viral function in SARS-CoV-2 infection and may lead to the development of more potent and selective inhibitors targeted to SARS-CoV-2 nucleocapsid protein.