1) A small woodland creature that lives in the hair forest in and around ones Anus. Usually the thicker said forest, the larger chance one would be infested by Butt Gnomes. Usually found in males, but females can become infected if they have a hairy anus as well.
2) Term used as a verbal attack. Who would want to live in a forest of anus hair?
Josh: "How are your Butt Gnomes doing?"
John: "I found one today, when I had my finger in my ass."
Jason: "I will rape him later."
Josh: "Look at my popped-up collar! I am the coolest man alive!"
John: "Whatever, I am pretty sure Butt Gnomes pop up their collars too... What a fag!"