Windows icon file (having the .ico extension) contains multiple images. Each image has a different size (or resolution) and color depth. For more details about recommended sizes and color depths under Windows XP and Windows Vista, read these articles: Introduction to icons and What's new in Vista icons
Windows Explorer can display files and folders on your computer using multiple view modes. Usually, it displays a name of a file, some of its attributes, its icon or thumbnail and when you move the mouse pointer above the file, it will display a tool-tip window with additional data.
A tooltip of an icon file displays the size of the icon in pixels. This information is regrettably not accurate, because there are multiple images inside an icon. Explorer displays the size of the last image. If you have just created and saved or downloaded an icon with Windows Vista formats ranging from from 16x16 pixels to 256x256 pixels and you are wondering why Explorer insists the size of the icon is 16x16, it is because the smallest image is the last one in the .ico file.
Icon (meaning real icon, not thumbnail) is used in Windows XP in all modes except the Thumbnails mode. In Windows Vista, it is used only if view mode is set to Details, List, or Small Icons. In other view modes, Vista uses thumbnails instead.
Windows chooses the most suitable image from an icon depending on current color depth of the desktop and the requested size. Usually, no rescaling is needed, but if high DPI mode is used or icon size is changed manually, Windows may rescale the icon and quality may suffer.
The thumbnail extractor for .ico files has a couple of limitations. In Windows XP, it (naturally) cannot extract the compressed 256x256 images, because this is a Vista-only feature. In Vista, the situation is a bit better but still not perfect.
The image actually displayed as a thumbnail may not be the most suitable one, this is especially true for Windows XP, where often the small 16x16 picture is used.
Early versions of Vista had a bug (inherited from XP) and picked wrong image for thumbnail. It always picked the last one in the icon, not the best suitable. This bug was fixed in one of the updates of Vista (also in SP1).
When dealing with .ico files, do not trust what Windows Explorer shows you, it is only a fraction of the information contained in an .ico file. There is really no reason why .ico files should have a top support in Explorer, because they are useless on their own. Instead, they should be used to customize a shortcut or a folder - in these cases, everything works perfectly.
While the handling of icons in Explorer is satisfactory from a normal user perspective, an icon author could use a more advanced solution. The RealWorld Thumbnails shell extension provides an alternative thumbnail extractor for .ico files. A thumbnail generated with RealWorld Thumbnails will contain all different image sizes in an icon and allows you to quickly examine all images in an icon. Also, thumbnails of compressed Vista icons will be available on Windows XP.
If you for any reason need to have large thumbnails for .ico files and do not want to use the custom thumbnails extractor, there are two ways:
None of these ways are recommended, because they will produce non-standard files.
Also, updated versions of Vista do not need this workaround as the bug was fixed.