Council leaders have won permission to challenge the communities secretary's plans to replace district and borough authorities with unitary councils.
Ms Kelly's lawyers argue she does have the necessary power
The challenge at London's High Court was brought by three councils in North Yorkshire, Shropshire and Cheshire but has wider national significance.
They argue Ruth Kelly does not have the necessary power to invite restructuring proposals - a claim her lawyers deny.
The judge ruled a full application for judicial review should be heard.
Mr Justice King said it was "arguable" Ms Kelly lacked the power and that the application should be heard as a matter of urgency.
Ms Kelly's critics argue that she lacks the necessary power because the Local Government and Public Involvement in Health Bill has not yet been approved by Parliament.
They say she therefore did not have the legal power to invite councils to bid for unitary status.
The legal challenge was brought by three authorities who are threatened with abolition - Congleton Borough Council, Shrewsbury and Atcham Borough Council and Harrogate Borough Council.
Andrew Arden QC, representing the three council leaders, said the legal challenge was supported by 19 other local authorities.
"Democracy is worth preserving. This case concerns who survives as a local authority," he told the judge.
"This is the Full Monty of reorganisations".
Following the judge's decision, Robin Hooper, chief executive of Shrewsbury and Atcham, said: "It is important to realise this case raises fundamental issues of constitutional importance which go beyond local government.
"In our case we have conducted polls which show a majority of local people are against the abolition of existing councils."
The government argues that unitary councils can improve the services they offer communities by making them more efficient and cost effective.
The Department for Communities and Local Government is currently considering the future of 80 councils.
A spokesman for the department said: "This does not represent a decision just that a hearing can take place.
"We strongly believe we have acted within our powers and appropriately throughout and will contest this review vigorously."
Shadow communities secretary Caroline Spelman said Ms Kelly should announce an immediate halt to the process of local government re-organisation following the court's decision.
"We told Ruth Kelly that this was a rushed measure, and when the council took out its action we urged her to stop proceedings until the judicial review was heard," she said.
"She took no notice, nor has she taken any notice of concerns raised about how she was to gauge a 'broad measure of support' for proposals under the bill."