Order Status vs State

States are what Magento uses internally to understand the position of the order. States are defined in XML in the global/sales/states node:

<states>	
    <new translate="label">
        <label>New</label>
        <statuses>
            <pending default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </new>
    <pending_payment translate="label">
        <label>Pending Payment</label>
        <statuses>
            <pending_payment default="1"/>
        </statuses>
    </pending_payment>
    <processing translate="label">
        <label>Processing</label>
        <statuses>
            <processing default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </processing>
    <complete translate="label">
        <label>Complete</label>
        <statuses>
            <complete default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </complete>
    <closed translate="label">
        <label>Closed</label>
        <statuses>
            <closed default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </closed>
    <canceled translate="label">
        <label>Canceled</label>
        <statuses>
            <canceled default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </canceled>
    <holded translate="label">
        <label>On Hold</label>
        <statuses>
            <holded default="1"/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </holded>
    <payment_review translate="label">
        <label>Payment Review</label>
        <statuses>
            <payment_review default="1"/>
            <fraud/>
        </statuses>
        <visible_on_front>1</visible_on_front>
    </payment_review>
</states>
 

Status

A status is used to understand in more granularity for the store owner (or custom application) what position the order is in.

Statuses are created in the admin area (System > Order Statuses). Each created status can be assigned a state; ** state is a child of status **