Illsley voted against a bill proposing transparency in MPs' allowances and the publication of a list of allowed expenses, otherwise known as the John Lewis List. Illsley claimed £149,700 in expenses including £90,000 staff costs.

On 19 June 2009 he was one of dozens of MPs identified by The Daily Telegraph as having made "phantom" claims for council tax on his parliamentary expenses, receiving thousands of pounds more than he was entitled to. He was thought to have made the highest phantom claim—over £6,000. He has claimed over £10,000 for council tax in four years although he was charged £3,966 for his Band C property in Lambeth, south London, in this period. He regularly submitted claims for £200 a month, which meant that he did not have to submit receipts.

Shortly after re-election as a Labour MP in the 2010 general election, on 19 May 2010, Illsley was charged with three counts of false accounting. He was suspended from the Labour Party and had the Labour whip withdrawn in the House of Commons. On 11 January 2011, he pleaded guilty at Southwark Crown Court to three charges. He was to be sentenced in February 2011 and if he received a prison sentence of more than 12 months, he would have been automatically disqualified as a member of parliament under the Representation of the People Act 1981, causing a by-election at Barnsley Central. Illsley stated his intention to resign as an MP before sentencing, and on 8 February he was formally appointed Steward of the Chiltern Hundreds, vacating his seat. A by-election followed on 3 March 2011. He was sentenced to 12 months imprisonment on 10 February 2011, and was released on 13 May 2011 after serving three months. He wore an electronic tag for the remainder of his term.

On 13 October 2011, he appeared on BBC Newsnight on which he described his inflated expenses claims as "an allowance for living in London". He also revealed that he receives a Parliamentary pension, although he refused to disclose the amount.