The defeat leaves the Foxes with a seven-point cushion over seventh-placed Blackpool, while Reading, now with 28 points out of a possible last 33, enhanced their pre-match billing as dark horses to gate crash the play-offs.
City threatened early on when Lloyd Dyer's deflected shot flew just wide before Paul Gallagher went close from 16 yards.
But it was the Royals who took a 16th minute lead when Jimmy Kebe outpaced Ryan McGivern and rounded Chris Weale before slotting home from a tight angle for his seventh strike in 11 games.
Andy King fizzed a shot just wide as City pressed for an equaliser, but it was Reading who almost scored again when Weale mishandled a cross and only desperate defending prevented Matthew Mills from stabbing home from close range.
King's header from a Dyer cross then flashed just wide before another deflected shot from Dyer was narrowly off target.
The Foxes equalised on 40 minutes when the lively Dyer crossed from the left for Martyn Waghorn to score with a powerful downward header from eight yards.
Adam Federici came to Reading's rescue when he tipped over from King after more good work from Dyer.
Reading produced the first threat of the restart when Kebe cut in from the left before finding Glyfi Sigurdsson, who was denied by King's solid block.
Weale then came to City's rescue when he dived sharply to his left to beat away a Sigurdsson drive.
Dyer conjured up a chance in the 73rd minute when he robbed Ryan Bertrand and raced goalwards before firing into the side-netting from a tight angle.
But chances continued to arrive for the visitors with a Jobi NcAnuff drive ricocheting to safety off Michael Morrison, before Weale clawed away Bertrand's 20-yard piledriver.
Four minutes from the end a clever exchange of passes played in Dyer, whose angle drive was punched away by the Reading keeper.
But disaster struck the home side in stoppage time when Nolberto Solano conceded a penalty when he tripped Simon Church inside the box and Sigurdsson calmly stoked home the spot-kick to secure maximum points.