When the story opens, we see the mushy smushy interactions between a little girl named Sara Crewe and her father (let's call him Papa Crewe), who are extremely sad about an imminent event. The imminent event happens to be the fact that Papa Crewe is shipping Sara off to boarding school in London (the cloudiest, most dreary of all places to be abandoned!) because she simply cannot stay with him in India. It's not good for children because sun is worse than rain, and foreign countries turn good children into savages, or something.
(In case you're wondering: yes. This is racist. In fact, the whole book is a tad racist. We'll get to that.)
Sara arrives at Miss Minchin's Seminary for Girls, which is a fancy boarding school run by a humorless old maid named (you guessed it!) Miss Minchin. Papa Crewe buys her lots of expensive clothes and toys, including a doll named Emily, and then jets off to India again.
Miss Minchin treats her as a star pupil because she's rich, but secretly she has a serious dislike of the little girl because she's intelligent and independent—and Miss Minchin doesn't like to feel threatened in any way. Sara makes friends with a not-too-bright girl named Ermengarde and takes a little girl named Lottie under her wing. She also befriends a scullery maid named Becky and wows everyone with her impressive grasp of the French language. So far, London is a success.
On Sara's eleventh birthday, Miss Minchin plans a huge party and Sara buys a giant doll that she ominously refers to as "the last doll." However, as Sara is celebrating, Papa Crewe's lawyer comes to the boarding school and gives Miss Minchin some unfortunate news—Papa Crewe has died. Penniless. With no money to pay the bills.
Minchin is angry because of the money, but she's delighted because now she can hate Sara openly. Overnight, Sara goes from the richest student at the school to a maid who's forced to sleep in a tiny attic room and perform all sorts of chores. She somehow survives by making up fantastical stories, befriending a rat, and talking to her doll. Yes, she's a pretty weird little girl.
Despite the fact that she's poor, hungry, and cold, Sara still manages to act like a princess, dispensing charity and speaking proper English. Meanwhile, her neighbors—a large family and a rich neighbor with an Indian servant—are watching Sara, who they find very odd and sad.
We get to see inside the Indian man and his house as well—and there is something reallllly interesting going on! The Indian man happens to be searching for the child of his friend, Ralph Crewe, who was also his business partner in diamond mines. Basically, the kid of this Ralph Crewe fellow is going to be stinking rich when this Indian guy finds her. Hm, Ralph Crewe. Something about that sounds familiar … Oh, hey, it's Sara's dad! Unfortunately, the man is totally on the wrong track, searching in France and Russia.
Meanwhile, on the other side of the wall, Sara has gotten herself into big trouble. Miss Minchin punishes her severely, taking away the meager scraps of food that she's been living on. Sara goes to bed hungry and upset, but when she wakes up in the morning, she sees that her room has been magically visited and is full of nice things, a warm fire, and filling food. Magic and sorcery!
This whole "elves in the night" thing continues for a while and Sara and Becky are not quite so starved anymore, which bothers Miss Minchin because she's a total witch, and not in the cool J. K. Rowling sense.
Then, one day, Sara returns a monkey to her rich neighbor's house. (Really.) When she gets there, the man and his lawyer realize that … wait for it … she's Sara Crewe! Sara comes to live with the man and receives her inheritance, and Miss Minchin is predictably miserable when she realizes she's made a terrible mistake in treating Sara poorly and missing out on all that money she could have had.
So, in the end, the good are rewarded and the bad are punished—just like in a real fairy tale. Happily ever after!