Alfred is outside, serenading Rosalinde. Adele has been invited to a ball by her sister Ida, a singer, but when she asks her mistress for the night off to visit a sick aunt, Rosalinde, who has heard the excuse before, is unsympathetic, particularly as her husband has to go to jail that night for insulting a policeman. After serenading Rosalinde outside the window, Alfred comes in to press his suit, but Rosalinde reminds him that she is married, though she is touched by his reminder that they had been in love when students at the conservatorium. Learning that Eisenstein will be in jail for five nights, he promises to return later.
Eisenstein comes home with his lawyer, Dr Blind, whose inefficiency has increased his sentence. He asks Rosalinde to dig out some old clothes, so he will not look out of place in jail.
Dr Falke arrives, ostensibly to commiserate with Eisenstein, but actually to invite him (unknown to Rosalinde) to a grand ball that night to be given by the young and wealthy Prince Orlofsky, convincing him that he will be able to go incognito and then report to the jail first thing in the morning.
Rosalinde tells Adele that she may have the evening off and Eisenstein goes off to change his clothes - into full evening dress. Rosalinde, Adele and Eisenstein all rejoice in the prospect of the evening's planned diversions. When the others have gone, Rosalinde receives an invitation to the ball with a new dress and a mask. Alfred returns and makes himself at home with Eisenstein's cap and dressing gown and supper. Colonel Frank arrives to escort his distinguished prisoner to jail in person. He assumes that Alfred is Eisenstein and Rosalinde begs him to go along with this to preserve her reputation. Alfred is led off after taking advantage of the situation to seize a long farewell kiss.
Prince Orlofsky's ballroom
Adele discovers that her sister had not sent the invitation, but they decide to make the best of the situation: Adele is to call herself Olga and pretend to be an actress.
Falke promises to entertain Prince Orlofsky, who finds everything a great bore, with a diversion called the Revenge of the Bat. He is seeking revenge on Eisenstein for having left him by a fountain, drunk and in the costume of a bat. When he woke up in the morning he had to make his way home in fancy dress to the amusement of the bystanders. He explains that Adele, the first character in his scenario, is his hero's maid, while Eisenstein, who is announced as the Marquis de Renard, is the central figure.
The prince tells Eisenstein that the only rule of his house is that everyone should do as he pleases; he has been promised a good laugh, at Eisenstein's expense. Catching sight of Adele, Eisenstein is astonished by her resemblance to his wife's chambermaid, but she laughs at him for his "mistake."
The Chevalier Chagrin arrives, Colonel Frank under an assumed name and another of Falke's cast, followed by Rosalinde, masked and calling herself a Hungarian countess, the last of his cast. Eisenstein tries to persuade Rosalinde to unmask, and he tries out his chiming watch, which usually entrances the ladies, but she manages to get it from him. To add conviction to her impersonation, the supposed Hungarian countess sings a czardas. The guests sing a toast to champagne. Eisenstein hurries off to jail, followed by Frank.
Frosch the jailer lurches drunkenly about his business as Alfred bursts into occasional song. When Frank appears, also intoxicated, Frosch tells him that the supposed Eisenstein is demanding his lawyer. Adele and Ida appear, to take up the offer made by Frank to help the supposed Olga's career as an actress. She confesses that she is really a chambermaid, but gives a demonstration of her acting and singing skills. When Eisenstein reports for his sentence, he and Frank are surprised to recognise one another as guests at the ball, but Frank believes he already has Eisenstein in jail. When Dr Blind arrives, Eisenstein borrows his wig and gown. Rosalinde arrives and Alfred is brought from his cell and they try to explain to the supposed lawyer how the mix-up occurred, assuring him that it was quite innocent. Flinging off the wig, Eisenstein launches into a denunciation, which is cut short when Rosalinde produces his watch, as evidence of his philandering. He then tries to pretend that he is not Eisenstein, but Adele identifies him.
Accompanied by Orlofsky and his guests, Falke arrives to explain the plot to Eisenstein. All join in another chorus to champagne.