Starting point:
The light assembly must be free of cracks (specifically look for stress cracks in the outer plastic). Don't worry too much about minor chips. Also look inside the light...if you see signs of rust on the chrome plated deflectors in the bottom of the light, then you may want to find a better assembly to use as a starting point. Even if you don't notice any cracks, if you have rust, you probably have a crack somewhere that is allowing the moisture to build up within the light and essentially causing the rust.
Note: I have had some experience with separating the light assembly to remove/replace the chrome deflectors in the past...but it wasn't an easy job. Careful use of a heat gun and a lot of patience is the key...but that isn't in the scope of this thread. This thread starts with a non-cracked and properly working tail light assembly.
First step: Clean Clean Clean.
Start with soap and water. I took about 20 minutes in my deep sink to clean of the light assembly using just Dawn dishwater detergent and warm water.
Afterwards, let the assembly dry or use a hair dryer to speed up the process. I used the hair dryer and let it blow into the light thru one of the bulb holes for about 15 minutes to allow the insides to dry up pretty good. Make sure the hair dryer isn't blowing too hot...you don't want to melt anything, you just want air-flow to cause the evaporation.
Then I cleaned off the entire outside of the assembly with solvent made for plastic....but you could use other solvents including waterborne wax and grease remover.
It is so important that you start with a very clean surface, because our next step is wet-sanding. The last thing you want to do is sand a bunch of dirt into the plastic lens.
Here was my set of lights after the cleaning process. Note the many many scratches and if you look close enough you can see a few chips in the plastic
Step 2: Sand!
This is the major step of the process. I started with 1000 grit, and wet sanded the assembly smooth. This is the most important sanding step...the one that you eliminate all of the deep scratches and knicks in the plastic.
Take your time and smooth out the knicks/chips. Note that this is a scary step because it appears that you are ruining the light...but don't worry yet, we will restore the finish. Just focus on getting out all of the imperfections.
Also note, go ahead and sand the black plastic trim around the clear lens while you are at it. And don't worry too much about the black painted 'stripes' on the lens itself...don't focus on them but don't worry if you start rubbing the paint off....its going to happen anyways.
Here is the result of about 30 mins of wet sanding with 1000 grit:
Looks cloudy but the chips and deep scratches are gone.
Clean off the light with water and wipe it dry with a micro-fiber cloth.
Next step: more and more wet-sanding. Our goal now is to restore the finish of the light by simply stepping up in grades of sandpaper...hence making the scratches caused by the sanding process less and less deep.
So go to 1500 grit....
Keep the light nice and wet during sanding. I didn't use a block, just hand with very mild pressure. Remember you aren't sanding out imperfections anymore, you are just smoothing out the finish. Remember to get the black plastic trim as well.
Don't forget to clean off the light and wipe down with a micro-fiber towel after each sanding step. You do NOT want remaining residue from the former grit sanding step in with the mix, it basically negates what you are trying to accomplish
Note: Micro-fiber towels are awesome to wipe things down without scratching, but first carefully remove the tag on your towel. It is amazing how that stupid little tag on the towel will scratch your part. I ran into this a lot when cutting/buffing the finish on one of my cars after painting.
Anyways, after you are done with 1500 grit...go to 2000 grit...and then to 2500 grit. I put about 10 minutes per step.
Here it is at 2500 grit...looking better: