Robert Finnigan, who represents the Morley North ward, was questioned by police after he was accused of breaching election rules at last year's polls.
Coun Finnigan was reported to West Yorkshire Police by a group of electors who believed he did not meet council eligibility criteria.
They alleged that he was neither living nor working inside the Leeds area and, therefore, under election rules, should not be allowed to stand for Leeds City Council.
But after 10 months of reviewing police papers, the Crown Prosecution Service has now decided there is 'insufficient evidence' to charge him.
Coun Finnigan said today: "I am delighted that these entirely bogus allegations have been dumped."
When he had last stood for election in 2004, Coun Finnigan had been living in Drighlington, Leeds.
The protestors claimed he had since moved to Liversedge to live with partner Lisa Drake.
His job for Kirklees Council, they said, also meant he was working outside of the Leeds boundary. But, Coun Finnigan, 48, said that he had already left his job with Kirklees Council by the time nomination papers were filed in April and that his main job then, and now, was as a Leeds councillor.
He said at the time of his registration he was not living in Liversedge but actually at a flat in Queen Street, Morley.
That flat – belonging to fellow city councillor and current Mayor of Morley Terry Grayshon – was, said Coun Finnigan, merely a stop-gap arrangement while he sorted out some 'personal issues'.
He is still listed on the 2009 electoral register as living at Queen Street but has confirmed to the YEP that he is now indeed living in Liversedge.
One of the legal challengers, Stewart McArdle – a former city councillor – today said he remained convinced rules had been broken.
He said: "I am very disappointed in this result because of all the evidence that I believe was stacked against him.
"I am choosing not to vote because of this, even though I could be fined for not providing my details. I have simply lost faith in the system."
A spokeswoman for the Crown Prosecution Service said it had now informed West Yorkshire Police that there was insufficient evidence to charge Coun Finnigan.
Coun Finnigan won last May's election by more than 2,000 votes.
He is the leader of the five-strong Morley Borough Independent Party and has a seat on the influential Executive Board of Leeds City Council.