Local field potentials (LFPs) are commonly thought to reflect the aggregate dynamics in local neural circuits around recording electrodes. However, we show that when LFPs are recorded in awake behaving animals against a distal reference on the skull as commonly practiced, LFPs are significantly contaminated by non-local and non-neural sources arising from the reference electrode and from movement-related noise. In a data set with simultaneously recorded LFPs and electroencephalograms (EEGs) across multiple brain regions while rats perform an auditory oddball task, we used independent component analysis (ICA) to identify signals arising from electrical reference and from volume-conducted noise based on their distributed spatial pattern across multiple electrodes and distinct power spectral features. These sources of distal electrical signals collectively accounted for 23–77% of total variance in unprocessed LFPs, as well as most of the gamma oscillation responses to the target stimulus in EEGs. Gamma oscillation power was concentrated in volume-conducted noise and was tightly coupled with the onset of licking behavior, suggesting a likely origin of muscle activity associated with body movement or orofacial movement. The removal of distal signal contamination also selectively reduced correlations of LFP/EEG signals between distant brain regions but not within the same region. Finally, the removal of contamination from distal electrical signals preserved an event-related potential (ERP) response to auditory stimuli in the frontal cortex and also increased the coupling between the frontal ERP amplitude and neuronal activity in the basal forebrain, supporting the conclusion that removing distal electrical signals unmasked local activity within LFPs. Together, these results highlight the significant contamination of LFPs by distal electrical signals and caution against the straightforward interpretation of unprocessed LFPs. Our results provide a principled approach to identify and remove such contamination to unmask local LFPs.