Even if you are not talking on your cell phone, your phone is constantly sending and receiving information. It is talking to its cell phone tower over a pathway called a control channel. The reason for this chatter is so that the cell phone system knows which cell your phone is in, and so that your phone can change cells as you move around. Every so often, your phone and the tower will exchange a packet of data that lets both of them know that everything is OK.
Your phone also uses the control channel for call setup. When someone tries to call you, the tower sends your phone a message over the control channel that tells your phone to play its ring tone. The tower also gives your phone a pair of voice channel frequencies to use for the call.
The control channel also provides the pathway for SMS messages. When a friend sends you an SMS message, the message flows through the SMSC (SMS Control), then to the tower, and the tower sends the message to your phone as a little packet of data on the control channel. In the same way, when you send a message, your phone sends it to the tower on the control channel and it goes from the tower to the SMSC and from there to its destination.
The actual data format for the message includes things like the length of the message, a time stamp, the destination phone number, the format, etc.
Why 160 Characters?
SMS was designed to deliver short bursts of data such as numerical pages. To avoid overloading the system with more than the standard forward-and-response operation, the inventors of SMS agreed on a 160-character maximum message size.
But the 160-character limit is not absolute. Length limitations may vary depending on the network, phone model and wireless carrier. Some phones don't allow you to keep typing once the 160-character limit is reached. You must send your message before continuing. However, some services will automatically break any message you send into chunks of 160 characters or less. So, you can type and send a long message, but it will be delivered as several messages.