ISO is the speed of negatives (used to be referred to as ASA). Digital cameras, however, don’t use film, so what is give is the ISO equivalent. So in digital cameras, the ISO number represents how sensitive the sensor is to light. The higher the ISO, the more sensitive it is. The ISO affects the shutter speed and aperture as well.
Certain examples where you might need to use a higher ISO are situations where there isn’t enough light to expose a scene properly. Say your camera warns you that there isn’t enough light. You could use a flash, but in some situations, that’s not allowed (like concerts). In that case, you would use a higher ISO, either auto mode, or manually. You can also adjust the ISO in situations where the shutter speed is too slow to hold the camera steady, and the aperture cannot be opened up any more, and when you want to capture action. In those types of cases, you might want to select the next higher ISO speed.
This increased sensitivity does come at a cost though, that cost being noise. Just like with film, an image sensor will show noise, just like film shows graininess. Sometimes this can contribute to the mood of your images. The size of the image sensor will also affect noise. Smaller image sensors will exhibit more noise. This is also a part of the reason that not all cameras having the same amount of mega pixels take equal pictures. Most consumer digitals use a small image sensor, and therefore will show a good deal of noise at speeds as slow as 400 ISO. Some higher end cameras, such as digital SLR cameras, use larger sensors, usually a full frame or half frame size. Noise is usually not a problem, even at higher ISO settings. The pictures from these cameras usually won’t start having troublesome noise until around 1600 ISO.
Here are the basics for you to follow whenever possible:
Use the lowest ISO that you possible can in every situation. The Auto setting will usually do just that.
Try adding light or a flash whenever possible, rather than increasing the ISO.
If it’s a matter of choosing between not taking the picture, and using a higher ISO, go ahead and take the shot. At least you can try and clean it up later with photo software.