Gapless playback refers to the continuous playback of consecutive tracks of an album without any perceivable "skip" between songs. This is very important when listening to, for example, a dance mix CD or a continuous live album. On previous iPod models, there would be a slight but noticeable silence as the player came to the end of one track and started another. Gapless playback allows the enjoyment of the original flow of the album while maintaining each separate track, as on the source CD.
iTunes 7.0.1 (?) and higher automatically encodes gapless playback information for all imported music. If you upgrade to the current version, it will automatically determine gapless playback info for all songs in the Library when first launched. (This can take a few minutes if you have a large collection.)