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Can you challenge a character with a champion, knowing
that your champion's going to die, but also knowing
that he'll be tied up for the next turn? This is
assuming you have a standard, outnumber, etc.

Wont help much for that. The overkill will be the same as the damage the char would do to the unit.
It does prevent the char from knocking a rank off the unit for one more turn.

Challenges have many uses. Here are some.
1) protect your char. He cant take as much damage while in a challenge as less people can attack him. Usefull vs units that could destroy your character, espically when you are receiving a charge.

2) Prevent enemy chars from whiping out your front rank.
Many chars such as vampires can wipe out the front rank of a unit. If he is stuck in a challenge then he cant do this and the front rank is free to fight back against his unit and even out the damage.

3) prevent enemy chars from attacking your char.
If your char is weak you might want to issue a challenge with your champion to prevent the enemy from attacking him. Usually only works for one turn as your champion is turned to fine paste.

4) remove an enemy char from combat.
Some characters have a lot of defence and can take a sever beating and not be damaged. If you challenge an enemy character you might prevent any of the damage he does. Example: high elf W/2+ save, rerollable, and 4+ ward save vs a chaos lord. Will take perhaps 1 wound where a normal unit would take 5. you prevented 4 combat res against you.

Some of this can be difficult to pull off when enemy champions are getting in the way of your plan. If you can hold a turn you can simply direct many attacks at the enemy champion and then the next turn put your plan into action.

One fun trick, say "I challenge your champion, or I challange your general" usually they will accept with whoever you name. More of a psycology trick but quite fun.

Did i miss anything?
O yes, the only dirty trick i know about challenges. Supose you have a unit ranked 1 deep, say 5 knights with a char. Put the char on one end. If the enemy charges that side, say with hoards of grail knights, and you issue a challenge to their unit champ then only the guy fighting the challenge can swing as nobody can actually strike anyone else (all are in base with your char but he is in a challenge so cant be hit).

Ah, so that's what I like to hear!

What about a challenge vs. a model with like 10 attacks (mount and rider)?

Kiss your butt goodbye.

Against some enemy, having your champion torn to shreds and 5+ overkill is better than the alternative, especially with troops that can fight.

A really good Asrai example is Wardancers with a champion facing Skeletons lead by a Vampire.  You challenge and use the extr attack dance and who cares what happens, be cause your champion can die only once.  You wardancers tear his unit to pieces.  Without the champion, the vampire could kill many of your wardancers and now you cannot overcome the CR with casualties of your own.

*takes notes on suiciding Wardancers*

I think I need a second unit of these guys.

Going to alternate between Warhawk Riders, second Wardancers unit and second Wildriders
unit just to see what happens.

But the unit has to be able to fight... Hmm...

Now wait a minute, can't he just opt to give you his standard bearer thrall or whatever?

Yes, he could, assuming he bothered to put a champion or another character in the unit.

Some people upgrade all the time. They make me sad.

Keep your expensive but fragile woodelf characters alive by giving them the annoyance of nettlings then issue a challenge. This is a great way to divert blood dragons, duel-equipped bretonnian lords, dwarf thanes/lords etc. On the other side, you need to watch out for your opponent challenging to reduce the attacks on his squishy characters; i.e. mages and BSBs. This is a reason to never put a champion in a unit that has the slightest chance of going mage/BSB hunting.

Lately ive been playing a chaos list with a massive unit of chosen warriors, and i load the front rank with characters. I always challenge with the lord because the magic items he has on him ensure that the harder the fight the better he gets, so if he gets a champion he might as well have faught the unit, and if he gets a character he gets tougher for later.
That said, i never accept a challange with anything other than a chaos lord or a unit champion for the simple reason that my character might actually have to fight something. If an enemy lord wants to squish my champion thats fine, ive had orc warboss's crush lordlings and i still win combat.

A Lone Slann gets hit by a unit. I immediately challenge. You can either accept and have your champion in combat with my slann, or decline, and I have one less attack coming at me.

I ended up sitting for three rounds in combat with a swordmasters unit, Slann in challenge with champion. They had one rank, banner and outnumber. I had two banners. Ldr 8 cold-blooded and a re-roll. Held long enough for another of my units to get there and clear them out.

Well everyone already said the main reasons. As a skaven player I rather the champ gets annihilated and keep my ranks which can affect my leadership.