Bob and Doug McKenzie (Rick Moranis and Dave Thomas) are two dim-witted and unemployed "hosers" living in Toronto, Ontario who find themselves in a bind when they squander their father's beer money and then run out of beer. The brothers place a live mouse in a beer bottle in an attempt to blackmail the local beer store into giving them free Elsinore beer, but are told to take up the matter at the Elsinore brewery instead. After presenting the mouse to management at the brewery, the brothers are given jobs on the bottling line inspecting the bottles for mice. They take this opportunity to drink lots of free beer off the line; later, they present their parents with a van full of free Elsinore beer products as part of their payment with their new jobs.
Meanwhile, the evil owner of the brewery, Brewmeister "B.M." Smith (Max von Sydow), is perfecting a secret plan to take over the world by placing a mind-control drug in Elsinore beer which, while rendering the consumer docile, also makes him or her attack others when stimulated by certain musical tones. Smith tests this adulterated beer on patients of the conveniently located Royal Canadian Institute for the Mentally Insane, which is connected by underground tunnels to the brewery. The effects of the tainted beer are demonstrated in an extended sequence during which the mental patients don armored Star Wars-style hockey garb and, after consuming the beer, respond to synthesizer music by variously playing hockey, skating together in sync, and brawling on the ice.
It seems the former brewery owner John Elsinore has recently died under mysterious circumstances and his daughter, Pam (Lynne Griffin), having recently turned 21, has been given full control of the Elsinore brewery. Pam's incompetent uncle Claude (Paul Dooley), in the interim, had married her widowed mother and is reluctant to give up his recently-gained control of the brewery. The reason for this is further revealed to be that the bumbling Claude is collaborating with Brewmeister Smith, for whom he is a buffoonish toady, providing a cover for the Brewmeister's nefarious plans. Bob and Doug blunder into the midst of these plans when they rescue Pam from a malfunctioning security gate and both become fast friends with her.
While exploring the massive brewery, Bob and Doug find a shuttered cafeteria containing an old Galactic Border Patrol video game that supernaturally reveals that Brewmeister Smith murdered John Elsinore and that Uncle Claude was deeply involved. Additionally, while poking around the brewery, Bob and Doug meet a one time hockey great, Jean "Rosie" LeRose (Angus MacInnes), whom Bob recognizes from the hockey card he has back home at his parents' house. Having suffered a career-ending nervous breakdown and fallen under Smith's control, Rosie gets locked up at the insane asylum but is determined to fight against the Brewmeister's plot for world domination.
Eventually, Bob and Doug wander into Brewmeister's operations room while he is away, and Doug takes a record disk of John Elsinore's murder, believing that it is a New Wave bootleg record. Immediately afterward, Brewmeister and Claude shoot the brothers with tranquilizers. They then dress up in the brothers clothes where they are shown on security camera shooting tranquilizer darts at Pam and a friendly associate, named Henry Green, and put their unconcious bodies in kegs.
When Bob and Doug wake up, they are back in their van, convinced that their suspicious discoveries were all just dreams, and they are instructed by Claude to deliver two kegs of beer (actually containing an unconscious Pam and her father's friend, Henry Green) to a party at the bottom of a big hill. However, the brakes have been modified to only allow two stops before giving out altogether.
Nevertheless, as Bob and Doug drive, they soon get distracted and decide to stop off at their house to feed their dog. They also leave behind the incriminating record disk of Brewmeister and Claude's actions at their house. Having wasted one stop prior, they find themselves unable to stop the now-speeding vehicle and eventually wind up jumping off of the Toronto pier into Lake Ontario. Rosie arrives and tries to rescue Pam who cannot swim, but after saving her, he passes out and sinks to the bottom of the lake.
The police rescue Pam and the badly injured Henry, and assume that the Mackenzie brothers are dead, seeing as they have not surfaced the water for 10 minutes. When they send down a pair of scuba divers to inspect the van, however, they find that Bob and Doug never left their seats. They survived by inhaling air which was trapped in the many empty bottles rolling about in the van. With them is also Rosie, who had provided his last breath to Pam for her survival, and would have died if the brothers had not saved him as well. Unfortunately the accident causes memory loss for Pam who becomes near catatonic, and the brothers are therefore framed for the attempted murder of Pam Elsinore and Henry Green.
When put on trial, Bob and Doug's crazy antics cause the judge to declare them insane, and he puts them under Brewmeister Smith's care at the Royal Canadian Institute for the Mentally Insane. Brewmeister assigns Ted, one of his cohorts, to find out everything that the brothers know about what they saw at the brewery and if they have the missing record disk, but they just end up frustrating Ted with their childish and comical behavior.
Meanwhile, Claude goes to the hospital where the injured Rosie is being treated and, while impersonating a doctor, attempts to kill him in his hospital bed with a syringe filled with poison. But his plan fails when Claude is mistaken for a doctor and he is forced to inject his syringe into an epiletic patient and is forced to flee from the hospital. Claude drives out of the parking lot without paying his ticket, and Rosie chases after him by stealing a car and beating up the parking lot attendant. The injured Henry Green, hearing about the attempt on Rosie's life, also escapes from the hospital in a stolen police car after the parking lot attendant calls the police to report the incident.
Also a police inspector begins looking up various leads after visiting Claude earlier and catching something about his odd behavior. The Inspector pays a visit to the McKenzie brothers house to talk to their parents, but Mr. and Mrs. McKenzie are not home. However, the family dog drops off the incriminating record disk to the Inspector before supernaturally fleeing.
Rosie goes to the institute and soon finds Bob and Doug in an electroshock treatment room where they are playfully zaping each other with high voltage electric shocks, and helps them escape. They also find Pam at the institute and rescue her as well. Rosie, having figured out Brewmeister's plan, foments an uprising among the brainwashed test subjects. Doug leads half of the hockey players to the shipping dock, where they shove Claude into the labeling machine until he can be arrested by the Inspector and the police. Rosie leads the other half to Brewmeister's control room, where Brewmeister Smith manages to kill all of them in a brief hand-to-hand combat except for Rosie, who shoves him into a light board with a hockey stick where John Elsinore's ghost (who had been haunting all of the electrical devices at the brewery, including the arcade game) effectively zaps him to death.
Beforehand, Brewmeister Smith had captured Pam and Bob, and locks them in a huge brewery tank that he began slowly filling with beer in an attempt to drown them. Doug, Rosie, and the police eventually track them down and open the hatch. To their surprise, not a drop of liquid flows out. Pam climbs out and explains that Bob drank all the beer! (Bob has now cartoonishly grown to an obese figure standing over two stories tall.) She runs to the cafeteria where she finds Henry Green there and they both see her father's ghost, who tells her of how Brewmeister has already shipped out his free tainted beer to the local Oktoberfest and tells her to stop them.
Meanwhile, Doug tries his best to figure out where to take Bob out of the tank to so he can take "an enormous leak". Bob warns Doug and Rosie to move away, and emits a powerful belch which blows off the end of the tank. When they hear that a wing of the brewery is on fire, Doug recruits Bob to extinguish it by urinating on it, returning him to normal size.
After they put the fire out, the police ask for their help in stopping the Oktoberfest fiasco. They all go back to the boys' home and find their beer-drinking dog, Hosehead, a black dog who resembles a large skunk, to invade the party. Enticed by free beer and sausages, Hosehead runs down the street and begins to fly like Superman's dog Krypto (briefly wearing a cape that he loses to the wind) over the city, until he crashes down through the tent of the celebration and effectively scares everyone outside.
In the end, the McKenzie Brothers save the day and Pam and Rosie find true love. As for the contaminated beer, Bob and Doug are allowed to haul away the lot... to apparently try to drink it all.
(A loose framing story style is employed in the movie; the opening shows the McKenzies giving their discussion antics as the opening act for their segment show 'Great White North' (from the SCTV series) at a movie premiere for 'Mutants of 2051 A.D.', which they return to at the close of the movie during the closing credits for another discussion of the movie that the viewers just watched with them as the stars.)