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This is a "Wild Mass Guess" entry, where we pull out all the sanity stops on theorizing. The regular entry on this topic is elsewhere. Please see this programme note.
Legend
Jack is the Innocent one, while Lily is tainted by Darkness.
In the Director's Cut of the movie, we see Lily lie, steal, and betray her love, all out of nothing more than whim. Sure, one could argue that she is innocent of the harm these actions cause, but the evidence does not back this up: her touching of the unicorn removes its protection and makes it vulnerable to the goblins, and she is led easily by Darkness' magics (which Jack himself is not). Clearly, Jack's pure heart and inability to believe his love will do wrong are the true innocence, while Lily is (like most people) flawed - though her flaws were useful in manipulating Darkness (another un-innocent action).

The goblin who turns out to be elf after Darkness sends him to the dungeon is actually a goblin from Labyrinth, who somehow fell between the two worlds.
Unlike all the other characters in the movie, he makes distinctly modern-world references (the Judeo-Christian reference to Darkness as "Angel of Darkness," saying "adios amigos" as he falls in a bottomless pit, and talking about getting cooked as being "barbecue"). Also, that suit of armor shows up during the attack on the goblin city in Labyrinth. Jareth must have sent him as a spy upon Darkness - his rival as an oddly seductive goblin monarch obsessed with an adolescent girl.

Darkness' father is, in fact, God.
Darkness refers to himself as the ultimate figure of, well, Darkness (unless his So Long As There Is Evil speech is a bluff). Therefore, the seemingly all-powerful "Father" he speaks to during the film cannot be purely evil: it is a being beyond either Good or Evil, who might be prayed to by or receive sacrifices from either side.

Darkness' father is, in fact, the real Ultimate Evil.
Darkness speech about how he must always exist was a giant bluff, and he was destroyed forever by Jack. His Father, however, will continue plotting, and find a new pawn...
  • Corollary: Despite his posturing, Darkness was actually just a very inexperienced teenage demon, thus his general incompetence and complete confusion at being faced with an attractive member of the opposite sex.

Everything was an illusion created by Oona.
Recognizing Jack's love for Lily and heroic nature, Oona set up a massive illusion in which Jack would fight to save the world, Oona would offer him her love and help him, and Lily would turn evil. Everything was going well, and she had set the stage perfectly for a touching reconciliation between herself and Jack in Act Three (after she saved him from a surprise attack delivered by the evil Lily, naturally), but Jack's utter refusal to think ill of Lily fought back against Oona's glamour, causing Lily to not kill the unicorn, and Oona's schemes to fail, at which point she allowed him to awake again into the real world.

Lily lost her innocence when she touched the unicorns
It was her punishment for laying hands on the unicorn.
Leap YearWMG/FilmLegion

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