An unresolved issue about many neurodegenerative diseases is why neurons are particularly sensitive to defects in ubiquitous cellular processes. One example is Niemann Pick type C1, caused by defects in cholesterol trafficking in all cells, but where neurons are preferentially damaged. Understanding this selective failure is limited by the difficulty in obtaining live human neurons from affected patients. To solve this problem, we generated neurons with decreased function of NPC1 from human embryonic stem cells and used them to test the hypothesis that defective cholesterol handling leads to enhanced pathological phenotypes in neurons. We found that human NPC1 neurons have strong spontaneous activation of autophagy, and, contrary to previous reports in patient fibroblasts, a block of autophagic progression leading to defective mitochondrial clearance. Mitochondrial fragmentation is an exceptionally severe phenotype in NPC1 neurons compared with fibroblasts, causing abnormal accumulation of mitochondrial proteins. Contrary to expectation, these abnormal phenotypes were rescued by treatment with the autophagy inhibitor 3-methyladenine and by treatment with the potential therapeutic cyclodextrin, which mobilizes cholesterol from the lysosomal compartment. Our findings suggest that neurons are especially sensitive to lysosomal cholesterol accumulation because of autophagy disruption and accumulation of fragmented mitochondria, thus defining a new route to effective drug development for NPC1 disease.