Bahrain recalled its ambassador from Iran on Thursday and ordered Tehran's envoy to leave within 72 hours, claiming interference in its affairs, the official BNA news agency reported.
The Gulf kingdom of Bahrain, with a majority Shiite Muslim population ruled by a Sunni dynasty, has suffered from unrest since a pro-democracy uprising in 2011.
Bahrain frequently accuses predominantly Shiite Iran of meddling in its affairs.
A foreign ministry statement was quoted as saying the action was taken in response to "continuing interference by Iran in the affairs of the kingdom" and an attempt by Tehran to foment "confessional sedition".
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Iran supports acts of "sabotage and terrorism" in the country, the statement added, accusing Tehran of forming and arming "terrorist groups" and providing them with refuge.
Bahraini authorities said on Wednesday they had uncovered a large stash of weapons and arrested a number of people suspected of having links with Iran and Iraq.
An interior ministry statement said arms and explosives were discovered in a house in the mainly Shiite town of Nuwaidrat, south of the capital Manama.
The cache included a tonne and a half of C4 explosives and other explosive material, as well as automatic rifles, pistols and hand grenades, the ministry said.
In August, Bahrain arrested five people suspected of links with Iran in connection with a bombing that killed two policemen in the island state.