Ipswich Town 1 Watford 2
Jay Demerit and sub Bruce Dyer headed home goals late in each half, and although Tommy Miller fired home a consolation penalty, the division leaders were unable to secure a draw.
Town will now drop out of top slot if Wigan win at Coventry on Wednesday, while third-placed Sunderland are now just three points behind the Blues after their home win over Rotherham.
Ipswich started brightly and loanee James Scowcroft almost got a touch to a low Darren Bent cross on five minutes, before a low Miller drive forced a decent save out of Paul Jones.
Miller was at the centre of most of Ipswich's good attacks and he forced another save out of Jones with a low shot, fired one drive wide and also put Bent away for an effort which again Jones was equal to.
A poor Bent touch let him down after Scowcroft and Ian Westlake had helped the ball on, before Watford shocked Ipswich with a goal in first-half stoppage time.
Town twice failed to clear a corner and when veteran Neil Cox flung in a cross to the far post, Demerit jumped between two defenders to guide his header beyond the left hand of Kelvin Davis.
Ipswich had a great chance to level inside the first five minutes of the second half when Scowcroft's flicked header put Bent clear, but he shot disappointingly wide of goal.
Miller fired wide after Jones dropped an angled volley from Town sub Darren Currie before Bent latched on to another Scowcroft flick, but took the ball on to his weaker left foot and blazed miles over.
Bent volleyed over after a hopeful Currie punt dropped into his path, before Watford could have doubled their lead when loanee Johnnie Jackson's thunderous volley from Jermaine Darlington's cross flashed just wide on 74 minutes.
Miller shot wide from a Bent knock-down before Watford's second effort on target brought their second goal, Dyer unmarked inside the six-yard box to head home Jackson's left-wing corner.
Sub Dean Bowditch tried to liven Town's attack up but twice fired over, before Davis dived to save a header from the aptly named Dominic Blizzard as the snow showers intensified over Portman Road.
David Unsworth shot over when left unmarked at a corner before Cox left a hopeful ball forward by Jim Magilton and Bent latched on to it, but his lob hit the bar and was cleared.
From the corner, Cox was adjudged to have handled, although the offender appeared to be Town's Scowcroft and Miller beat Jones to his left-hand side.
Currie could have snatched a late point with a low volley which was deflected just wide, but it wasn't Town's night and to make matters worse, Scowcroft's second-half booking rules him out of the trip to Wigan on Saturday week.