The deal gives the Holy See a decisive role in the appointment of all bishops in the country.
The Vatican has stressed the deal is strictly about the appointment of bishops and has nothing to do with Taiwan, which the Vatican still recognises diplomatically.
Pope Francis addresses at the front of the Presidential palace in Vilnius, Lithuania September 22, 2018.
He did not immediately provide details about the deal, announced at the Vatican and in Beijing shortly after Pope Francis began a four-day pilgrimage to the Baltics.
Currently, Catholics in China face the choice of attending state-sanctioned churches approved by Beijing or worshipping in underground congregations that have sworn allegiance to the Vatican.
"As the world watches China increasingly tightening control over religious practices, Taiwan trusts that the Holy See has made appropriate arrangements to ensure that Catholic adherents in China will receive due protection and not be subject to repression", Taiwan's Foreign Ministry said.
The announcement had been expected amid speculation that it could lead to a normalisation of ties between the Vatican and Beijing, possibly at the expense of Taiwan.More news: Iran Terror Attack Boosts Oil Prices More Than OPEC Meeting
The shared hope is that this agreement may favour a fruitful and forward-looking process of institutional dialogue and may contribute positively to the life of the Catholic Church in China, to the common good of the Chinese people and to peace in the world.
Taipei said it had been assured by Rome that the deal was "not of a political or diplomatic nature" and would not affect their 76-year-old diplomatic relationship.
Many years the relationship between Beijing and the Vatican have been strained due to the fact that the Holy see is the only European subject of worldwide law, maintains direct diplomatic relations with Taiwan. Others want to see rapprochement and avoid a potential schism. "They're [sending] the flock into the mouths of the wolves". Over the last few months, local governments across China have shut down hundreds of private Christian "house churches".
"Maybe this agreement solves the problem of the seven bishops", said a priest with ties to the underground church.
Vatican sources have said the complicated deal, which will not be published, is provisional so that it can be reviewed and fine-tuned.
This means that effectively all bishops on mainland China will recognise the pope's authority for the first time since about 70 years ago, when Beijing severed diplomatic ties with the Vatican.
In two of the seven cases, government-backed bishops will take the place of bishops who shunned government control - the first time the Vatican asked so-called underground bishops to step aside for this goal.