Physical addressing means that your program actually knows the real layout of RAM. When you access a variable at address 0x8746b3, that's where it's really stored in the physical RAM chips.
With virtual addressing, all application memory accesses go to a page table, which then maps from the virtual to the physical address. So every application has its own "private" address space, and no program can read or write to another program's memory. This is called segmentation.
Virtual addressing has many benefits. It protects programs from crashing each other through poor pointer manipulation, etc. Because each program has its own distinct virtual memory set, no program can read another's data - this is both a safety and a security plus. Virtual memory also enables paging, where a program's physical RAM may be stored on a disk (or, now, slower flash) when not in use, then called back when an application attempts to access the page. Also, since only one program may be resident at a particular physical page, in a physical paging system, either a) all programs must be compiled to load at different memory addresses or b) every program must use Position-Independent Code, or c) some sets of programs cannot run simultaneously.
The physical-virtual mapping may be done in software (with hardware support for memory traps) or in pure hardware. Sometimes even the page tables themselves are on a special set of hardware memory. I don't know off the top of my head which embedded system does what, but every desktop has a hardware TLB (Translation Lookaside Buffer, basically a cache for the virtual-physical mappings) and some now have advanced Memory Mapping Units that help with virtual machines and the like.
The only downsides of virtual memory are added complexity in the hardware implementation and slower performance.
