Struggling inventor Randall Peltzer visits a Chinatown antique store, hoping to find a Christmas present for his son Billy. Inside, Randall encounters a small, furry creature called a mogwai (Cantonese for "devil"). The owner, Mr. Wing, refuses to sell Randall the creature, but his grandson secretly does, warning Randall to remember three important rules: do not expose the mogwai to light, especially sunlight, which will kill it; do not let it come in contact with water; and above all, never feed it after midnight.
Randall returns home to Kingston Falls, where he gives the mogwai to Billy as a pet. Billy works in the local bank, but fears that his dog Barney will be put down by widowed miser Mrs. Deagle. Randall names the mogwai "Gizmo" and explains the three rules. Gizmo is friendly and docile, but when Billy's young friend Pete accidentally spills water over Gizmo, five more mogwai spawn from his back, a more troublemaking sort led by the aggressive Stripe, named after the mohawk-like tuft of fur on his head. Billy shows one of the mogwai to his former elementary school science teacher, Mr. Hanson, spawning another mogwai, on whom Hanson experiments. Back at home, Stripe and his fellow mogwai trick Billy into feeding them after midnight by severing the power cord on his alarm clock. They form cocoons, as does Hanson's mogwai, which soon hatch, emerging as mischievous reptilian monsters called "gremlins", who attack Billy's mother, Lynn, while Hanson is murdered by his gremlin.
Lynn and Billy are able to dispatch the gremlins, except for Stripe, who escapes to a local YMCA. There, he jumps into its swimming pool, spawning an army of gremlins who wreak havoc in Kingston Falls. Many people are injured or outright killed by the gremlins' rampage, including Mrs. Deagle. Billy reports this to the police, but they prove to be no help as they do not believe his story, even after he shows them Gizmo.
As Billy rescues his girlfriend, Kate Beringer, they hide in the now-abandoned bank where Kate reveals to Billy and Gizmo that when she was nine years old, her father went missing on Christmas Eve and did not come home on Christmas Day either; several days later, he was found dead in their chimney while dressed as Santa Claus. Planning to surprise her and her mother, he had accidentally slipped and broken his neck, killing him instantly, while climbing down the chimney. Still suffering from post-traumatic stress disorder, Kate confesses this is how she lost her belief in Santa Claus.
Billy and Kate discover that the town has fallen silent and the gremlins are watching Snow White and the Seven Dwarfs in the local theater. They set off a natural gas explosion, killing all the gremlins except for Stripe, who left to commandeer more candy at a Montgomery Ward store across the street. As morning approaches, they follow Stripe into the department store, where he attempts to use a fountain to spawn more gremlins. Gizmo, driving a toy car, opens a nearby skylight, exposing Stripe to sunlight, killing him.
As the local news reports on the day's mysterious tragedies, Mr. Wing reclaims Gizmo at the Peltzer home. He scolds the Peltzers for their negligence and criticizes Western society for its carelessness with nature. However, as he turns to leave, Gizmo, having bonded with Billy, bids him goodbye. A touched Wing then concedes that Billy may be ready one day, and until then, Gizmo will be waiting.
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