Firewall software is used to have control over the (internet) traffic between computers. A firewall makes sure you are not visible on the internet, and if you are, nobody is allowed to enter without your knowledge and specific authorization. This makes your internet connection a lot safer (a firewall is even more important then virus scan software). Windows XP is already provided with a firewall and most of the hardware routers are also provided with a firewall (sometimes you have to activate it).
The question rises: why install firewall software on my Windows system? The answer is easy: with firewall software you aren't only in control of the incoming traffic, but also in control of the outgoing traffic. You are able to control which applications are allowed to go online and which you rather would block internet access. If you get infected by a Trojan or virus which wants to send information (like your passwords...) to the internet, it has to pass the firewall. Access to the internet is blocked for the application, until you have allowed the specific traffic. Resuming: The firewall gives you total control over what goes to and comes from the internet.
Especially if you have a network and/or a fast internet access like cable or DSL, then it's not wise not to use a firewall, especially if you have also installed a wireless router. Most of the times you get a fixed IP address from your internet provider, which means that if you are found as an open computer, you are easily found again, especially when you are always online. Also with a changing IP address, it's wise to use a firewall, to make sure no personal information comes in strange hands.
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I know there are a lot of people who decided to share their whole C: partition. Of course this makes it easy to share information between 2 or more PC's, but without any security all your information (also your passwords....), will be shared with your 'friends' on the internet. Be careful with sharing data, to make them accessible by other computers, with a firewall you can configure extra authorisation rules. There is more information about sharing files and folders on the page about creating a (wireless) network.
There are a few firewalls which you can download for free (for use at home, in order of my appreciation), which are described on this webpage (I prefer the Sygate Personal firewall: works perfect and not difficult to understand):
Besides these three firewalls, there are two alternatives (freeware as well): Comodo firewall (download: www.personalfirewall.comodo.com) and Ghostwall (download: www.ghostsecurity.com/ghostwall).
If you use one of those firewalls (or one of the commercial firewalls) you better turn off the Windows XP firewall. To turn off the Windows firewall go to the Control Panel, Security Center, Firewall. As shown below it is not recommended, but if you have one of the above firewalls you don't need it anymore.

For more information about security see the pages about:
Firewall software:
Sygate,
ZoneAlarm
and Kerio
antivirus software and
adware software
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