Oh boy, one could write an entire history of the 20th century United States through the prism of examining the rise of surveillance and domestic counterintelligence efforts. Let's stick to WW1 for now, because that's really where government counter-subversive agencies get their feet wet.

WW1 really transformed the U.S. state at the time. When policing in America was essentially in the realm of local police forces and contracted Pinkertons, the change was dramatic. The FBI (just called the Bureau of Investigation at this time) went from 300 former Treasury employees to a major agency of 1500 agents in less than two years. The Military Intelligence Division of the U.S. Army, which essentially was one dude (Maj. Ralph Van Deman), grew to 1700 employees. The reason behind the swelling of investigative and intelligence agencies? Primarily for purposes of domestic surveillance amid grave concerns that certain American ethnic communities would sabotage the war effort.

Now here we get into the "illegal" part of your question. Some hair-curling laws were passed during WW1 (the Espionage Act, Trading with the Enemy Act, and Sedition Act) that granted the executive branch the power to arrest anyone who interfered with the war effort, monitor and censor newspapers, watch for subversion in literature or mail, and prosecute "dissidents." These were dramatic powers that were deemed "legal" by Congress. But the Military Intelligence Division, will the full knowledge of Pres. Wilson and his attorney general, forged strong ties to the civilian group the "American Protective League". The APL was led by private citizens, had hundreds of thousands of members, and sought to do their part for the war effort by rooting out suspected spies and subversives. Military Intelligence and the Justice Department regularly met with APL leaders, and contracted them to semiofficially work for the government to not only detain suspected German spies, but also attack "dissidents", which included antiwar activists, union organizers, and many other left-wing organizations deemed too radical.

APL members started pinning homemade badges onto their chests and claiming that they were government agents. Their activities were diverse, but included detaining and throwing suspected draft dodgers or slackers in jail, breaking into people's homes, and trying to squeeze money from private citizens like a crime mob. The APL was certainly engaged in illegal activity, not to mention that they were not officially government-sanctioned, but the U.S. counterintelligence agencies of the time kept any concerns quiet for a time. It was only in September 1918 when the New York branch of the APL launched a series of raids that detained 60,000 people, with only 200 actual draft dodgers among the detainees, that there was enough public outrage for the Justice Department to strip the APL of any semiofficial legitimacy it may have had.

Beyond the APL, the Military Intelligence Division and FBI did quite a bit to curtail civil liberties during and immediately after WW1 that danced on the edge of legality. This included infiltrating unions, arresting labor activists, cracking down on strikers, and engaging in mass arrests of suspected Bolsheviks. Much of the future surveillance and blacklisting that would happen during WW2 and the McCarthy era have their heritage in the counterintelligence programs that got started during WW1.

Sources: Policing America's Empire by Alfred McCoy, Uncle Sam Wants You by Chris Capozzola. And in case you want to see some photos of actual badges worn by APL members.