The history of state-religion relations in Taiwan from 1945 to the present can be divided into three stages. The first stage lasted from 1945 to 1987 during which the Leninist state, for the first time in Chinese history, effectively exercised tight control over religion. In the second stage, from 1987 to 2000, the democratizing state gradually withdrew its control over religion while most religious groups tended to refrain from involvement in politics. From 2000 to the present, the democratic state and various religions have developed constructive relations involving checks and balances, and this has maximized religious freedom, helped eradicate religious discrimination, and expanded the democratic participation of religious groups in politics. This paper combines theories of the state in political economy and religious market theory to explain these changes in religion-state relations and their impact on religious freedom. In conclusion, state-religion relations in Taiwan may provide an alternative model for appropriate state intervention in religion and the involvement of religion in politics in transitional democracies.