Saruman countered by revealing to the Hobbits that Gríma had murdered and possibly eaten Lotho Sackville-Baggins, a kinsman of Frodo; whereupon Gríma killed Saruman and was shot by Hobbit archers.
Lotho was stabbed in his sleep by Gríma at the behest of Saruman (who suggests Gríma may have eaten him as well). Publicly, Lotho simply disappeared from the public eye and his mother was taken to the Lockholes.
In this scene, the assembled leaders of the West ride to Ent-occupied Isengard to confront Saruman. Théoden offers to forgive Gríma for his treachery and make amends with him, pointing out that he was not always a villain, as he was manipulated by Saruman (as Théoden himself was).
His treachery revealed and unwilling to ride to war against the Enemy, Gríma fled to Isengard and later to the Shire, where he slew his abusive master only to be shot down by the Hobbits' arrows.
Saruman had just ordered his army to go to Helm's Deep and kill everyone there, which would have included Éowyn. This is when Grima, counting on Saruman's army victory, shed a tear (for Éowyn).
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Why was Gríma bad?
Gríma Wormtongue is one of the most infamous people in the history of Middle-earth, for he is known as the man who almost caused the death of a king and the ruin of a kingdom because of his desire to gain power and rise in the hierarchy.
Bloodlines are very important in Tolkien's stories, and it makes a lot of sense that Sauron would fear the great-grandson of the man who cut off his hand. Aragorn carried the blood of Numenor with him. His genetic connection to the heroes of the Second Age established him as a dangerous opponent of Sauron.
Saruman countered by revealing to the Hobbits that Gríma had murdered and possibly eaten Lotho Sackville-Baggins, a kinsman of Frodo; whereupon Gríma killed Saruman and was shot by Hobbit archers.
The fact that Grima's life is spared is consistent with Tolkien's theme of mercy and not dealing death in judgement that runs throughout his work. The choice to have Aragorn specifically save Wormtongue in the movie seems done for drama and to emphasize that Aragorn in particular is wise and merciful.
His name was Grima. Those in the Court of Rohan gave him (justly) the moniker of "Worm Tongue" due to his behavior. The whole point is that his behavior was insidious and he cunningly kept his behavior hidden from the King.
Legolas killing Wormtongue was an addition of the movies and never in the book. Instead, after Saruman and Wormtongue were released from Orthanc, Saruman took control of the Shire (Scouring of the Shire).
Grima had lusted for Eowyn for years, apparently. And he wanted power and gold. Of course, the first time he did some little something for the wizard, he was hooked. Because that would add extortion to the mix.
The price he named was Eowyn. In many exchanges between these two characters, it becomes clear that he lusts after her, and that he is removing all of the allies she has from beneath her feet, like her uncle Theoden, her cousin Theodred, and even her brother Eomer, who Grima has banished from the kingdom.
While not malicious or sinster as they were disagreeable, the family was never popular as they were extremely obnoxious, snobby, rude, and greedy. They were obsessed with acquiring the luxurious Bag End from their cousin Bilbo.
Their son, Otho Sackville-Baggins, married Lobelia, and it was these two cousins that Bilbo disliked the most. And he wasn't the only one with that opinion, as most Hobbits saw them as rude and greedy, all while they flaunted their wealth.
Although Alfrid is one of the best additions to The Hobbit movies, he is an addition nonetheless, as he doesn't appear anywhere in the books. Therefore, it is entirely possible that he and Grima could share the same lineage, the same blood, but this is never recorded anywhere in Tolkien's works.
While the director originally thought to place the material at the start of Return of the King, this created an opening that was more about mopping up past plot threads than starting new ones and so the sequence was cut, with Jackson figuring most viewers would simply assume Saruman was defeated by the Ents.
Based on these comments, another reason for cutting Saruman was to better focus the story of ROTK on Sauron, who emerges as the final villain of the trilogy. The scene was seen as detracting from the final film's actual plot, rather than advancing it.
The wizard called himself "Saruman of Many Colors" and "Saruman Ring-maker," indicating his covetous nature led him to try to make a Ring of Power for himself. Still, it lacked the strength of Sauron's or Gandalf's, so the former White wizard joined the Dark Lord in an attempt to claim some of his power.
Originally Answered: Was King Théoden completely possessed by Saruman? No. Not in the books. He was 'corrupted' by Grima Wormtongue, who we find out later worked for Saruman.
The death of the white wizard Saruman differs slightly from Tolkien's original book Return of the King to Peter Jackson's film adaptation of the same name. But although the whereabouts and the circumstances change between the two, both versions agree that Saruman is killed by Grima Wormtongue.
Grima Wormtongue was a man of Rohan allied with the wizard Saruman during the War of the Ring. He was appointed as the counsellor of King Theoden of Rohan, but betray the King by weakening his mind to prepare for Saruman's invasion of Rohan.
In his notes, Tolkien remarks that Sauron saw Galadriel as his equal. Add that to the fact that she's untrusting of Sauron (yes, even when he's in his Annatar guise) and an unwavering, single-minded force, and it's more likely than not that Sauron feared Galadriel — or the potential she held to upend his plans.
Saruman in turn considered him simple (minded) and a fool and can be heard saying that he (Radagast) acted in a manner contrary to how an Istari should behave. However he was fundamentally good and honest and therefore did not fall to the shadow, but did fail in his appointed task.
