Parapneumonic effusions complicating pneumonia are associated with increased morbidity and mortality. Along with increased mortality, complicated parapneumonic effusion and empyema often necessitate prolonged treatment, longer hospital stay and interventions. Parapneumonic effusions arise from inflammation in the lungs and pleural space from direct invasion of bacteria, cascade of inflammatory events and bacteriologic virulence features. Patient factors and comorbidities also contribute to the pathophysiology of parapneumonic effusion development. The evolution of parapneumonic effusion can be divided into three progressive stages: (I) exudative stage; (II) fibrinopurulent stage; and (III) organizing stage with pleural peel formation. These stages can help categorize effusions into groups in order to evaluate the risk of a complicated course requiring intervention. We recommend that clinical data be evaluated and a stepwise approach be taken in management of these patients. This review article discusses current understanding of the development and relationship of parapneumonic effusions with pneumonia.