What do you do if you have two kids who are at different stages toy-wise?

DD1 (7) is into Littlest Pet Shop and Polly Pocket types of toys. Also just starting with the tiny legos.

DD2 (3) tries to play with all the "big kid" toys but we still have Duplos and Little People for her, as well as other "little kid" toys.

We've always had pretty much every toy they own out because of the age spacing until they're outgrown by DD2. But the bottom line is that we just have too many toys out. Too. Many.

So I'd like to try to set up a toy rotation so that we only have a few types of toys out at a time, but I don't know how. How do you do it so that each child has a reasonable selection of age-appropriate toys out? How long do you keep toys out before rotating them? Do you let your children decide when/if they want something new? What if one/some toys are quite large - i.e. the play kitchen, a doll house?

We do have a reasonable amount of storage space in the basement, and I could probably set up an inexpensive shelving system against a wall, so I was thinking we could do some toy lending library type of setup with labeled (clear plastic) boxes?

Ideas? I need some serious help recovering my house from the toys!

Thanks!
Sarah