I have always wondered what the difference between tags and categories of the WordPress blog are. Up until fairly recently, tags were only added as part of some plugins such as Ultimate Tag Warrior, however, they have now been included as part of the WordPress core.
Until recently, I had brief knowledge about the differences between tags and categories, however, after reading an article about tags and categories by WordPress blogger, Lorelle VanFossen.
I recommend Lorelle's article to grasp the full knowledge of tags and categories, however, I will briefly explain it here, and if I'm not clear enough, feel free to head over to Lorelle's blog and have a read.
Categories
Categories are basically a grouping of topics on a blog that allows you to find posts that also fit within the category. So for instance, here at WPThoughts.com, we have 5 categories, help, news, plugins, security and themes. Basically, if a WordPress blog provides links to categories, the link should direct you to a page where the posts found within that category are found. The posts on the site should be from the blog at hand that you are reading.
Tags
On the other hand, tags are similar to categories, however, the links to tags should direct you to a site which links to other sites and articles using the same tags. So basically categories are for internal articles, and tags are for external articles. For instance, the tags for this post are categories, tags, and usage. Tags can also be used like categories for your particular site. If you follow my links, then you will find a broken theme which I need to fix. Some people choose to link their tags to off site articles found using a website like Technorati.
Generally, tags and categories can be two (2) very different things, however it is up to the blog owner exactly how they want tags and categories to work. Lorelle outlines their use quite well, and I recommend you take the time to read her article.

March 10th, 2009 at 8:22 am
Lorelle outlines it decently, though I have my own thoughts about tags and categories, especially on whether to use them or not.
Because WordPress already comes with a search feature, categories and tags are filters as well as supplements to this. Tags are more closely related to keywords than Categories.
My own beef with tag usage is when using tag clouds. Tag clouds of 50 words or more may become cluttered and detract from the design. Categories. Although both categories and tags can be styles, tags listed in detail may still detract from the layout.
My suggestion is to rather put a tag cloud on the 404 page, and/or a specific page in your ‘About’ or ‘Exits’ section as a reference for your visitors for extra convenience.