Leverkusen sacked Gerardo Seoane as manager following Tuesday's 2-0 loss at FC Porto in the UEFA Champions League.
The result left them third on the table although they are still level on three points apiece with second placed Porto and bottom side Atletico Madrid, with surprise leaders Club Brugge out on their own with nine points.
It is in the Bundesliga however that Leverkusen's hierarchy have the most concern about the club's form.
Just one win in eight games has seen Leverkusen drop into the relegation zone.
Alonso coached Real Madrid's reserve sides after retiring from football in 2017. He has also been in charge of Real Sociedad's B team but this will be his first senior role in management.
"Gerardo Seoane has done a good job for Bayer 04 over the past year and a half, above all by qualifying for the Champions League," said Leverkusen sporting director Simon Rolfes.
"Unfortunately, we have strayed from the road to success. From our point of view, the early elimination from the DFB-Pokal, but especially the fact that the current position in the Bundesliga is far below our expectations, made the change of coach imperative.
"In Xabi Alonso, we have signed a coach who, as a player, was an absolute world-class professional for many years, an intelligent strategist and extremely successful in three of the most demanding European leagues."
"I know Leverkusen from my time in Germany as an excellent club," Alonso told his new team's official website.
"Bayer 04 have always had great players, and I see a lot of quality in the current squad too.
"During discussions with the club, it quickly became clear that, despite the current difficult situation, ambitious goals are still being pursued in principle. I am very excited about this task and I am sure that we will live up to this claim."
Alonso represented Real Sociedad, Liverpool, Real Madrid and Bayern Munich in a storied career that yielded four league titles and two UEFA Champions League trophies. The 40-year-old also won two European Championships and one FIFA World Cup with Spain.
