Home captain Karen Carney had the best chance of a goalless first half but her volley was saved by Hedvig Lindahl.
Jo Potter's curling free-kick put the hosts ahead shortly after half-time.
Chelsea were unable to respond and defeat ended their hopes of winning a domestic treble this season.
After a slow start, the visitors ended the first half the stronger, and City keeper Sophie Baggaley did well to turn Gemma Davison's low shot around her near post, before Millie Bright's dipping effort went narrowly over the bar.
Two-time finalists Birmingham took the lead after the break when Potter found the top corner with an expertly-taken direct free-kick.
South Korea international forward Ji So-Yun saw her shot blocked as Birmingham defended in numbers, and Hannah Blundell's effort was deflected wide.
David Parker's side are now unbeaten in their last six games in all competitions and have won seven of their last nine.
Birmingham City boss David Parker told BBC Sport:
"It was a top-class display from our side. I think that we were definitely the better side throughout the game.
"We know how good Chelsea are going forward, their front four is magnificent, and we had stop them where we thought their strengths were.
"All week I did think we'd beat Chelsea, so that's where we think this group are."
Chelsea captain Gilly Flaherty told BBC Sport:
"Credit to Birmingham today. They deserve that win.
"If you're up there with the best, you've got to accept that pressure. I don't think pressure affected us today.
"Don't take the credit away from Birmingham. They were the better team and they deserve to get into a semi-final."
Birmingham City: Baggaley, Carter, Mannion, Harrop, Allen, Linnett, Carter (c), Potter, Lawley, Westwood, Windell.
Subs not used: Sargeant, Ayisi, Wellings, Torkildsen, Haines, Peplow.
Chelsea: Lindahl, Blundell, Bright (Spence 64), Flaherty (c), Fahey, Davison, Aluko (Ayane 80), Ji, Kirby, Borges, Coombs.
Subs not used: Chapman, Brett, Kitching.
Attendance: 516
Referee: Mark Griffiths.

More than 700,000 employees face unpaid leave due to the shutdown which was triggered after the two houses of Congress did not agree on a new budget.
Hyundai said affected employees who currently own its vehicles will be given a payment relief "for as long as they are out of work".
Employees looking to buy a new car will be given a 90-day payment deferral.
"We recognize the impact on family budgets that the furlough will drive," John Krafcik, chief executive of Hyundai Motor America, said in a statement.
Hyundai had offered a similar scheme, the Hyundai Assurance programme, during the peak of the global financial crisis four years ago to help consumers who had lost their jobs.
Many analysts have said that the move had helped the South Korean firm win customer loyalty and boosted its sales in recent years.
The company said that its latest offer to help the federal employees was an addition to that programme and aimed at "helping workers at a time when they most need it".
"Like we did almost four years ago when we launched Hyundai Assurance, this is our way of saying 'We've got your back' during this uncertain time," Mr Krafcik said.
Under the latest offer, Hyundai will extend all auto loan and lease payments during the shutdown for current Hyundai owners who are put on unpaid leave.
The programme is available to all customers who have financed their purchase or lease through Hyundai Finance America.
Birmingham City stunned Women's Super League One leaders Chelsea on Sunday to reach the semi-finals of the Continental Cup.
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Hyundai Motor will defer payments due from US federal employees affected by the partial government shutdown.