I do most of what everyone else has done: if I really can't bear to even handle it, I'll give it away to a deserving cause: if I can knit with it but don't want to own the result, I may knit things such as baby clothes for people in need, or scarves and hats, or pet blankets, and then give them away. But I also use yucky yarn for practising: learning a new cast-on or cast-off, or a new lace pattern, that sort of thing, before I make hideous mistakes with yarn I like.
Don't get the impression that I'm really organised, though. I don't often get round to swatches...