Why do Documents and iCloud Drive both take up separate space on my Hard Drive when Documents is part of my iCloud?

I think there's a misunderstanding of how iCloud works. iCloud on a Mac is not an off device backup service. Its a synchronization service.

Files categorized as "Documents" inside locations like Desktop and the Documents folders are not "backed up" to iCloud. They are synced. This means a copy exists locally always, synced to a copy on iCloud. They are not stored off device. If you change or delete something locally, it synchronizes with iCloud and changes or removes it from there too.

As such, the local copies will take up space on your hard drive.

If you don't want the to take up space locally on your Mac's hard drive, then move them out to an external drive. This will also remove them from iCloud.

This is all interesting, and it makes me question my understanding of iCloud Drive: iCloud Drive, the thing that appears in the sidebar, is not what's on my computer. But those files are in a secret place (an invisible folder called Mobile Documents).

When I move a file, say Money.xls, from my "Business" folder to iCloud Drive, then Money.xls disappears from my Business folder and the name "Money.xls" shows up in iCloud Drive, though it isn't actually "there" yet. In time, the file is finally copied to Apple's storage places. At the same time the file Money.xls is moved from Business to the secret folder. Now, when I click on Money.xls in iCloud in the sidebar (the only place I can see it,) the local file opens. If I change the file, it saves in the secret folder and is copied to Apple's storage places.

Is this right? If it is, then the iCloud storage numbers are just telling us how much of the total is in iCloud Apple's storage places; not telling us stuff on the computer. Like I said, I'm questioning what I thought I knew...

Documents are really a part of the Mac. They are imported as is the Desktop files into iCloud when you turn iCloud on and have iCloud import them into iCloud.

That is why I think backing up to a external drive is more sensible for data you don't need to be shared to other Apple devices.

When you have the Desktop and Documents turned on in iCloud settings, those specific folders are also synced to iCloud. They are not, moved to the iCloud Drive folder directly.