VPN stands for virtual private network. The network part, well, that's easy. It's basically a bunch of computers that share various resources. Private? That one's pretty self-explanatory. The "virtual" bit is where things get a little more complicated.
When you connect to a VPN, all the data that gets sent from your device to the private network at the other end (and back) is "encapsulated." Each packet of data gets put inside another packet -- think putting a letter into an envelope to keep its contents from being read during transport. The envelope could still be opened, though. That's why organizations like the CIA put tamper-proof tape over the flap. With a VPN connection, encryption is the tamper-proof tape. Some VPNs use SSL for encryption (just like secure websites do). Others might use IPSec or PPTP.
The end result is a sort of network-within-a-network, but because of encapsulation and encryption your connection to a VPN remains private even though the data you're transmitting is moving over the very public Internet.
Here's a simple take on what a VPN connection looks like, courtesy the folks at Microsoft:
Why Use A VPN?
Remember how your browser's private browsing mode only kept traces of your activity off your computer? A VPN can actually keep your ISP (and cybercriminals and would-be eavesdroppers) in the dark about what you're doing. Take a look back at Microsoft's diagram: the ISP can see the tunnel but they can't see what's going on inside the tunnel.
This also comes in handy at places like a hotel, airport, or coffee shop. You're putting yourself at risk any time you use their unencrypted public WiFi connections. If you connect to a VPN immediately after, however, you can surf safely.
Some VPN providers also allow their users to spoof their physical location. They might do that in order to access geo-restricted content on video streaming sites. A VPN connection can also help you get around ISP throttling and protect you from invasive tracking while you surf.
There are other benefits to using a VPN, too, but anonymity is not one of them. Using a VPN enhances your privacy and security, but you should never assume that your activity couldn't be traced back to you if someone really, really wanted to do it.
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