There is nothing in the story to support the idea that Gregor is imagining or hallucinating his transformation and much that makes it clear that Gregor's transformation is to be accepted as an actual event. The third-person point of view certainly does make this evident. Also, consider the conclusion of the story. The story does not end with Gregor's death. It continues to narrate events that occur after his parents and sister are free of him, showing the new lives they live and their plans for the future. The last line of the story focuses on Gregor's sister, describing her appearance and showing her in physical action. These details, of course, could not be included if Gregor's transformation, suffering, and death happened only in his mind.
The Metamorphosis is representative of a common theme in Kafka's work. He frequently depicted individuals trapped in horrendous circumstances who still try to deal logically with overwhelming forces. Gregor's actual transformation then works thematically.
Numerous interpretations of Kafka's "The Metamorphosis" have been suggested. So many in fact that one might be inclined to think that no single interpretation will ever reach the state of consensus. When trying to interpret the work looking for a linear (beginning-middle-end, etc.), rational interpretation, one might be trying to do the impossible.
At the same time, whatever one does conclude about the story must be based on evidence from within the story, and evidence from the story, I suggest, disproves any theory that concludes Gregor is insane and only imagines himself turned into a "monstrous vermin."
And I believe one only has to look at the first two lines to conclude this:
When Gregor Samsa woke up one morning from unsettling dreams, he found himself changed in his bed into a monstrous vermin.
Gregor is not the narrator. He might be hallucinating if he were the narrator, but he isn't. Thus, he is not hallucinating.
In order for Gregor to be only imagining his condition, or for Gregor to not really be transformed, the story would have to be told by an insane narrator.
And I don't believe there is any evidence of that.
Yes, I believe that Gregor is insane. He thinks he is an insect because he cannot get out of bed because of his depression. Mental patients usually do have a different look about them. Either in their eyes, their skin tone etc. Some of their physical appearance is due to poor diet. It is not unusual for a mentally ill person to think they are being posioned or the food is something other than what it is. This is the explanation as to why his family reacted to how he looked combined with how he acted.