Arthur is a young boy who lives underground with his adoptive grandfather. The two live below because Grandfather is in hiding, long ago accused of a crime he didn't commit. Since they can't get food in the Underworld, Arthur must regularly go above ground to find it. He uses a pair of wings Grandfather created to fly above the city as he scavenges. He also has a doll with a walkie-talkie of sorts inside, which allows him to communicate with Grandfather. On one scavenging trip, Arthur finds himself on the roof of the old Cheese Hall, witnessing an illegal cheese hunt below. One of the cheese hunters, a man with a tall top hat named Snatcher, sees Arthur and steals his wings.
Arthur escapes from Snatcher and is pulled through a door to safety by a boxtroll named Fish. Boxtrolls, a subspecies of common trolls, are shy and wear boxes around themselves. Fish has pulled Arthur into the home of a former lawyer named Willbury Nibble. Willbury is currently caring for Fish and two other boxtrolls, Shoe and Egg, who live above ground as scouts for their subterranean friends.
A cabbagehead named Titus is also temporarily residing in Willbury's home, visiting the world above to study human methods of cabbage cultivation. Cabbageheads are the worker bees of the Underworld. They worship cabbage and wear it on their heads. As Willbury and his Underworld friends (or "underlings") attempt to help Arthur get home, they discover to their dismay that someone has sealed off all of their holes leading underground. Willbury and Arthur contact Grandfather and let him know about their setback.
Willbury receives a visit from a grubby man named Gristle, who claims he represents the Northgate Miniature Livestock Company. He sells Willbury a box of miniature creatures, including a boxtroll, a cabbagehead, several trotting badgers and a freshwater sea cow. Gristle tries to convince Willbury to sell him the full-size underlings in his home, but Willbury refuses. While the larger creatures care for the smaller, Willbury and Arthur go to town for food and to locate the lawyer's inventor friend, Marjorie, in the patent office. Willbury thinks she may know something about the whereabouts of Arthur's wings.
Arthur gets his first look at the bustling city, sees the fashionable women flaunting their large and oddly-shaped derrières, samples meatpies from Willbury's favorite vendor and watches an odd-looking fashionista informing the town women that they must own a miniature boxtroll to be in style. Arthur thinks the woman looks strangely familiar, but she disappears before he can speak to her.
Willbury and Arthur find Marjorie in the patent office, sitting in a deck chair with a tent nearby. She has created something very special, but the patent officers appear to have stolen it and left town. Marjorie waits in the office anyway, not wanting to lose her place in line. Willbury convinces Marjorie to join them in sorting out her problem and theirs.
When the trio returns to Willbury's home, they find it ransacked. All but the miniature underlings have been taken. A man named Kipper with a rat named Tom on his head appears in the doorway. The pair announces they are from the Ratbridge Nautical Laundry. When Kipper and Tom hear about the disappearance of Willbury's friends, they mention that several rats have recently gone missing from their ship as well. They invite Willbury and his friends to return with them to their pirate-ship-turned-laundry-service and discuss the disappearances with their captain.
Willbury and the members of the Ratbridge Nautical Laundry determine that Snatcher and Gristle must be in cahoots and have something to do with the strange goings-on at Cheese Hall. They rent a room at the pub across from the hall so they can keep watch. Arthur, Tom, Kipper and a crow named Mildred take the first shift.
When Arthur sees a group of men entering the Cheese Hall, he sneaks in behind them. He finds Fish, Shoe, Egg and Titus, along with a number of other underlings, imprisoned in the basement. In a truncated conversation with Grandfather via his doll walkie-talkie, Arthur learns that Snatcher is the reason Grandfather lives below.
Arthur overhears Snatcher and his men talking about The Great One growing greater. They say his needs must be met. Arthur sees them lowering a cage of live cheeses, which bleat like goats, into a giant hole in the floor. When the cage is eventually lifted, all that remains are strands of molten cheese. Arthur also hears them talking about how they must keep the supply of cheese and monsters coming. He realizes the "monsters" are his friends and other underlings.
Arthur locates the wings Snatcher stole from him, but they've been completely taken apart. After the men are asleep in the Cheese Hall, Grandfather talks him through reassembling them. Arthur stealthily removes keys from the sleeping Snatcher and unlocks the cages in the dungeon.
The creatures, looking very afraid, warn Arthur not to open the large boarded-up cell. He helps the underlings escape and reach the Nautical Laundry boat, though Snatcher and his friends give chase. Snatcher convinces the police, who are affiliated with the Cheese Guild, to trap everyone on the boat and allow him to guard Arthur back at Cheese Hall. Snatcher puts Arthur in the dungeon and informs him that they intend to shrink him.
At the same time, back on the ship, Marjorie is revealing to Willbury that her stolen invention, now in Snatcher's possession, is a resizing device. It requires two objects to operate. So when something is made smaller, something else must be made bigger. Knowing Cheese Guild members are shrinking many boxtrolls and cabbageheads, Willbury wonders what is being enlarged.
In the dungeon, Arthur meets a prisoner named Herbert who enjoys walloping things — especially his jailers — with a mallet. Snatcher and the Guild have solved this problem by putting him (Herbert) in a pair of iron socks. Whenever Herbert gets out of hand, a giant magnet pulls him to the ceiling.
Herbert and Arthur contact grandfather through the doll. Grandfather is shocked to hear about Herbert, as they were old schoolmates. For the sake of Arthur and Herbert's faulty memory, Grandfather recalls how Snatcher's father had lost his cheese fortune and sent Snatcher to the poor school he and Herbert attended. Then Snatcher managed to lie and cheat his way into Oxford.
But one day, in a brawl at an inn, Snatcher hit another man with a poisonous ball made of brussels sprout oil. Herbert and Grandfather were present, too, and Snatcher framed Grandfather for the crime. Grandfather ran from the police and has remained underground ever since. Herbert says everything went green for him after that, and he found himself in the dungeon.
Meanwhile, Titus gets a tip from some other cabbageheads about a hole open to the Underground. Everyone aboard the Laundry ship dresses like a boxtroll to sneak past the Cheese Guild guards. They tunnel underground, guided by Rabbit Women, until they reach the boxtrolls' nest. The boxtrolls believe the Cheese Guild has an elevator nearby that will lead from the Underworld into the Cheese Hall. Everyone hunts for it.
Willbury and a few others search for and locate Grandfather. Remotely, via the doll, they help Arthur retrieve the keys to his cell before they lose contact. Willbury leads Grandfather and the search party out of the Underworld, as water begins to rush into the tunnels. The group gets caught in one of Snatcher's traps, and they are pulled above ground into the Cheese Hall. They soon learn Snatcher has captured the rest of their party as well.
Snatcher shows them a giant rat, formerly a tiny and mean Nautical Laundry member named Framley. He tells of his plans to unleash the rat on the town. Then he shrinks Marjorie to add to Framley's size. Arthur and Herbert arrive, and Herbert uses his walloping mallet to make an escape route in the wall. After everyone gets back to the Laundry ship, they realize they've left Marjorie. With the exception of Grandfather and the small underlings, everyone returns to fight Snatcher and the giant rat.
By the time they get to Cheese Hall, Snatcher and his men have already taken Framley to terrorize the town. When Marjorie informs them the rat was wearing metal armor, they rig up a contraption to draw him back, using the powerful magnet from Herbert's cell. Once back in Cheese Hall, Framley explodes.
Willbury clears Grandfather's name, charging Snatcher with the crime blamed on Grandfather. When Snatcher fails to show up and face charges, the gigantic hole in Cheese Hall is given to Willbury and his group. They use it to pump the problematic water from the Underworld and create a public swimming pool.
The women of Ratbridge suddenly decide large buttocks are out of fashion, and they beg Marjorie to shrink theirs with her device. Their excess size is pumped into the shrunken underlings and eventually Marjorie herself. With Willbury's help, Arthur, Grandfather and Herbert find a home and lead a wonderful life above ground.