The 29-year-old Briton is still in with a chance of repeating her bronze win from Rio 2016 but was within seconds of reaching the final, holding a two-point lead before Lee landed a head kick with one second remaining to sneak a 25-24 victory.
Walkden was visibly emotional when her team-mate and two-time Olympic champion Jade Jones suffered a surprise exit in the opening round at the weekend.
Jones was watching from the sidelines as her housemate endured an agonising end to an Olympic semi-final for the second consecutive Games, after losing in the penultimate round in Rio.
Walkden, who defeated Cansel Deniz of Kazakhstan in the quarter-finals, could still add a bronze to the silvers already secured by GB’s Bradly Sinden and Lauren Williams.
Williams suffered similar heartache in her final yesterday, leading with ten seconds on the clock only to be pipped to the gold medal in dramatic fashion by Croatia’s Matea Jelic.
Two-time Olympic taekwondo medallist Lutalo Muhammad, who was providing commentary on the event, offered his sympathies to Walkden.
"It is just heartbreaking for Bianca. She has put everything into this. She has won everything there is to win in the sport – except the Olympic Gold."
Walkden will take on Faith Ogallo of Kenya or Aleksandra Kowalczuk of Poland in the bronze medal bout later today.
Elsewhere, Team GB's Mahama Cho lost his opening bout in the men's +80kg category.