Round the sample values coarser and hold each one for longer. The two halves of the effect are separate: bit depth adds noise, and the rate divider adds aliasing.
Bit depth
A sample is stored as a number, and bit depth decides how many values that number can take. At 16 bits there are 65,536 steps between full negative and full positive scale. At 8 bits there are 256, and at 4 bits there are 16.
Every rounded sample carries an error, and that error is heard as noise. The fewer the bits, the larger the steps and the louder the noise, which is why a low bit depth sounds gritty rather than merely simple.
The control accepts fractional values on purpose. Dragging from 8 to 7 bits in whole steps would jump, so the step size moves continuously instead.
Rate divider
The divider holds each sample for a number of frames, which is a sample rate reduction. A divider of 4 on a 44.1 kHz file leaves an effective rate near 11 kHz.
There is no filter in front of it. Anything in the source above half the reduced rate has nowhere to go and folds back down as tones that bear no harmonic relation to the material. That aliasing is the metallic edge of the effect, and it is why the divider changes the character of a source far more than the bit depth does.
The two controls do different jobs
Bit depth alone gives a noisy but otherwise intact version of the source.
The divider alone keeps every value exact but destroys the high end and replaces it with aliased content. Most lo-fi settings use both, and it is worth setting each to an extreme on its own first to hear which is doing the work.
No dither
Dither is a small amount of noise added before quantisation to break up the correlation between the rounding error and the signal. It is left out here, because that correlation is the sound: undithered quantisation on a decaying note produces a distinct rattle as the level falls, and dither would smooth it into hiss.
Mix
At 0% the audio passes through untouched. Low mix values place a rough copy behind an otherwise clean source, which reads as texture rather than as a broken file. Fully wet is the usual setting when the effect is the point.
Example: a clean drum loop to lo-fi
Set the bit depth to 6, the rate divider to 6, and the mix to 100%. On a 44.1 kHz loop that leaves an effective rate around 7.4 kHz, so the cymbals turn into aliased ringing and the kick keeps its shape while picking up quantisation noise.
Pull the mix back to 60% to hear the original transients through the effect.