Revealing mistake: When Dorothy bumps into the Tin Man, she knocks on his foot, which sounds metallic. However, her fist sinks, revealing it is made of a soft material.
Visible crew/equipment: When the gang runs into the guard at the door, they all walk to the right of the screen to talk to him. While they're walking, you can see the shadow of the boom mic following them.
Revealing mistake: The moment before the Wicked Witch picks up the red hourglass to throw at Dorothy n friends, the flying monkey next to her is suddenly a miniature or reduced in size.
Continuity mistake: During the tornado scene, Dorothy gets knocked out by the windows, but right before the house hits the ground, the windows are back and intact.
Continuity mistake: When the Wicked Witch leans down to see the ruby slippers sticking out from under the house, she is pointing down at them, and practically touches them. But in the subsequent shots, she is in her standing spot from prior, pointing between Dorothy and the house.
Continuity mistake: When the witch is making her way towards the house a shadow disappears and reappears.
Other mistake: When the witch approaches Dorothy and Glinda, her legs are white, not green.
Continuity mistake: Dorothy's giant lollipop disappears after the witch appears.
Continuity mistake: When Prof. Marvel holds the photograph, his fingers disappear in the close-up.
Continuity mistake: As the Professor is revealed behind the curtain, his right hand is busily working one of the silver levers. A second later, it's working one of the red levers above the big dial.
Revealing mistake: When the Wicked Witch leaves to go to Emerald City on her broomstick, just before she rounds the tower, a couple of thin wires holding her up are visible.
Continuity mistake: When the Wizard is in the balloon, he raises his top hat pointing in an 11 o'clock direction. A frame later it's pointing in a 9 o'clock direction.
Continuity mistake: When the Witch turns the hourglass, the spoon in the mortar behind her moves around between shots.
Continuity mistake: Dorothy arrives at Prof. Marvel's cart and stands very close to the sign on the side. When the angle changes, she is standing several meters behind.
Continuity mistake: When Dorothy and the Scarecrow find the Tin Man and oil his mouth, between shots, the leaves on the Tin Man's shoulders change.
Continuity mistake: In the haunted forest when the Tin Man is levitated then dropped, the tin surrounding his upper left leg gets bent on impact. Later in the movie, the tin is perfectly formed and unbent.
Revealing mistake: In the forest scene when they walk up to the warning sign, watch and you'll see the Scarecrow's stick bend like rubber.
Answer: In the film it's left ambiguous. At the end it's strongly implied that she was dreaming. The characters she meets all look like people she actually knows. In the original book, she actually went to Oz.