How we do...

Toy rotation.

One of the most important tips that I gathered from Kim Payne's book Simplicity Parenting was the use of toy rotation and a "toy library" storage system.  System may be the wrong word because it implies something  that may seem more organized than a big cardboard box of toys in the storage room but hey, whatever works.  My point here is you don't need fancy shelves or even lots of labels to do this.  Just take half of the toys that are crowding your living space and put them away for a few months.

Payne's point in doing this was that if children are overwhelmed by too many toys they don't actually play with them, they just move from toy to toy and discard them in their wake.  After using this system for a year or so I tend to agree.  After a few months of toys being out of sight it is like bringing out something brand new when a still appreciated toy emerges from storage.

 I would love to say that once a season I rotate out books and toys freshening them up so to speak but it ends up being more like twice a year.  Regardless of the schedule it lets you get rid of broken or outgrown toys and keep the clutter a bit more controlled.  I also try to keep a one in, one out strategy so if a new toy is  acquired or one child asks for a specific toy from storage I'll ask him to choose one to trade back into the library.

And as for the toys we are getting rid of if they are in good condition I'll post them on craig'slist for a small amount and if they sell the boys get to put the money in their piggy banks, otherwise they are donated or discarded.  Some parents consult with their kids on which toys to let go of but I've found that my boys are pretty clear when something is outgrown.  If it rarely gets asked for or is even noticed I just take it out of rotation for good.  If you do consult and your kids resist just back off a bit.  Kids tend to hold on to things in the moment so revisit the toy again in a few weeks and if they haven't played with it much or at all in that time it may be easier to convince them that it is time the toy moved on to someone else who may play with it more.  

Less is more in the case of toys and books.  (Not that I don't have tons of kids books, I do.  They are just mostly kept in storage and rotated out according to seasons, holidays etc.)
This system is helping us to live in a smaller space without a toy room and not be overwhelmed by clutter and chaos constantly.  (Or, at least it's supposed to....work in progress:)