When setting up whole disk encryption with TrueCrypt, one re-boot is required to test the operation of the TrueCrypt Boot Loader. After this reboot is when actual encryption of the system takes place. The encryption process takes place while the Operating System is running (and, indeed, other applications can be used meanwhile as well) and does not require a reboot to complete.
How is this done? For any other application to do work on system files, it is generally required for the application to have some sort of pre-boot utility (which, by nature, necessitates a reboot) that can perform operations before the Operating System loads and locks the system files. What is TrueCrypt doing differently, that allows it to bypass this requirement without causing system instability?