Gareth Taylor's side were looking to make it a cup double after March's Continental Cup success but fell at the final hurdle in a thrilling encounter in North London.
Hayley Raso's 89th minute equaliser had sent the game beyond the 90 minutes but Sam Kerr's deflected strike in the first half of extra-time won it for FA Women's Super League champions Chelsea.
It was Kerr who had put Chelsea ahead in the 33rd minute before City's Player of the Season Lauren Hemp responded a few minutes ahead of half-time.
Chelsea again went in front through Erin Cuthbert just after the hour-mark and looked to have done enough to win the cup until Raso's intervention.
City attempted to force a third equaliser in the remaining time following Kerr's decisive effort, but it was not to be.
Watch all of the goals on the video above...