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What is TempVariables and TempTables in Sql Server 2005?

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#TempTable and @TempVariable are different things with different scope. Their purpose is different but highly overlapping. TempTables are originated for the storage and & storage & manipulation of temporal data. TempVariables are originated (SQL Server 2000 and onwards only) for returning date-sets from table-valued functions.

Common properties of #TempTable and @TempVariable:

They are instantiated in tempdb.

They are backed by physical disk.

Changes to them are logged in the transaction log1. However, since tempdb always uses the simple recovery model, those transaction log records only last until the next tempdb checkpoint, at which time the tempdb log is truncated.

Discussion of #TempTable and @TempVariable relations with each other.

A table variable behaves like a local variable. It has a well-defined scope, which is the function, stored procedure, or batch it is declared in. Within its scope, a table variable can be used like a regular table. Table variables are automatically cleaned up at the end of the function, stored procedure, or batch in which they are defined. Table variables require fewer locking and logging resources. If a temporary tables are used in stored procedure, it will create separate copy of the temporary table for each user in system who makes use of that stored procedure. SQL Server identifies the different temporary tables by internally adding a numerical suffix to the name.

Discussion of #TempTable and @TempVariable relations with each other.

Table variables used in stored procedures cause fewer recompilations of the stored procedures than when temporary tables are used. If the temporary tables referred to in a stored procedure are created outside the procedure, that will cause recompilation. Recompilation occurs when DECLARE CURSOR statements whose SELECT statements reference a temporary table, or DROP TABLE statements comes before other statements referencing a temporary table. In each of these cases, changing to a table variable rather than a temporary table will avoid the repeated recompilation.

Discussion of #TempTable and @TempVariable relations with each other.

Temp Tables supports non-clustered indexes and creates statistics on the query executed. This helps some query which needs stats and indexes to run faster. Temp Tables supports input or output parameters. Also they can be copied to another temp tables. Temp tables supports SELECT INTO or INSERT EXEC but Temp variables does not. Temp Table definition can be changed after it is created. Temp table can be explicitly dropped as well.

Which one to use?

Choose a TempVariables as Default. If any of the following circumstances arises use TempTables.
1) Transactions needs to rollback
2) If query optimizer needs stats to run complex query
3) If result sets of one tables needed for another stored procedure like SELECT INTO or INSERT EXEC
4) Complex logic of dynamic SQL, which are not supported by TableVariables like creating Index or Constraints
5) Results set is very large (greater than 100K rows)

The bottom line is that both temporary tables are table variables are invaluable tools in your SQL Server toolbox, and you really should become familiar with both.