I finally decided I had to get some semblance of control over the chaos before we all went nuts, and since my plan seems to be working out fairly well, I figured maybe someone like you could use it.
First of all, my kids have way too many toys. I already knew this, but then after reading things like this and this I decided to do something about it. I went through all the toys (while the kids were out of the room to lessen the sorrow over the loss) and threw away all the toys that were broken or worn, or that didn't get played with but weren't worth donating (Happy Meal toys anyone?).
The next step is to put each type of toy in its own container, preferably with a lid. I love the selection of small boxes and baskets at Dollar Tree, but I have also found some good cheap containers at Walmart.
After things had been sorted and organized, I let the kids back in the room. They got to take turns choosing a container of toys, until the small toy shelf was full. Now, go back and look at that picture. Our toy shelf is not very big. It will only fit 5-7 items, which really isn't very much (especially considering I require them to leave room for a few baby toys for Maren). We then chose 2-3 "big" toys (for example, the dress up box, the Little People Barn, etc) that sit around the room but not on the shelf.
Everything that's left went into the closet. Now, my kids are fairly good at staying out of the closet (perhaps because they were told that if they get anything out without permission it will get thrown away, and they have seen that statement in action), but if you feel yours won't then maybe find a way to lock it. We ended up with more than half our toys in the closet, which means we only have to keep control of 40% of our toys. This is SO much better!
toy rotation and bribery. ;)
Any time I ask my kids to do a big job (for example cleaning a large portion of the house with me), I tell them that anyone who works hard without fighting/whining/crying gets to choose a toy out of the closet. When the task has been successfully completed, any kid who met the criteria gets to go to the closet and pick something to get out, and then choose something from the playroom to put back in its place. The only things that always stay out are the books. This way they get to pick what is rotated and I get (mostly) willing help with work around the house. Their enjoyment of their toys stays fresh, and the house stays sorta clean.