Application of in situ UV-Vis absorption spectroscopy and ex situ X-ray photoelectron spectroscopy (XPS) makes it possible to resolve the controversies about the electronic properties of hematite (α-Fe₂O₃) nanoparticles (NPs) and, on this basis, to rationalize the unusual dependence of aquatic (bio)chemistry of these NPs on NP size. 2-Line ferrihydrite (FH) is also included in the study as the end polymorph of the size-driven phase transformation of hematite NPs in aqueous media. It is shown that the absorption edge of all NPs studied is due to the direct O 2p–Fe 3d charge transfer (CT) process, while a manifold of weak bands superimposed onto two main p–d CT bands is attributed to the d–d ligand field transitions. The band gap decreases from 2.95 to 2.18 eV with increasing NP size from 7 nm to 120 nm. This effect is attributed to restoration of hematite lattice structure, which ultimately results in an increase in the O 2p–Fe 3d hybridization, stabilization of the valence band, and delocalization of valence electrons, as confirmed by XPS. Finally, we show that the optical effects such as the Mie resonance significantly distort absorption spectra of hematite NPs larger than ∼120 nm. Possible impacts of these findings on (photo)catalytic and biochemical properties of ferric (hydr)oxide NPs are discussed.