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After the Prophet Muhammad died in 632 AD, some people wanted his son-in-law, Ali, to succeed him, while the majority chose Abu Bakr, Muhammad's father-in-law (he had a lot of wives). He lived two years, then Umar and Uthman followed, for ten years, then 12. The latter two were assassinated, and a group of Ali's followers pushed him as the rightful successor each time. Ali was then chosen, the fourth Caliph (just means successor). ALi was assassinated after four years, and there was Civil War for a while, even while Ali was alive (The empire had reached its limits and was going through growth pains). After Ali's death, Ali's followers put forth his two young sons, Hasam and Hussein. Both were minors. Both were killed in battles in Iraq within a couple of years of Ali's death. The followers of Ali became known as the Shia.
They believe that Ali was the rightful Caliph, and consider the other three before him as usurpers. They believe Ali was chosen by God, and there is a mystical quality to Shia that Sunni Islam doesn't have. Even though Muhammad was the last Prophet (for both religions), the Shia believe that God continued to bless and choose a series of leaders after this. I've forgotten the exact history, but eventually the Mahti emerged as the rightful heir to Muhammad, and I believe the literal heir of ALi and Fatima (Muhummad's daughter). The last Mahti is believed to have ascended into Heaven, and will return at the end of times, similar to the beliefs of Jesus. I think, thought I don't remember the details, that there is debate on who the last Mahti is, and therefore divisions within Shi'ism.
The Sunnis believe that Muhammad was the last Prophet touched by God, and consider the Shi'i wrong. I'm not sure of the current state of the two faiths (I'm more up on the history), but in the Middle Ages each religion considered itself the true Islam, and the other infidels, and each despised the other more than they despised Jews, Christians, or any other faith. In fact, Christianity and Judaism have favored status as religions of "The Book," meaning that Islam considers them true religions of God's revelation, but that both were corrupted somewhere along the way.
Iran is Shi'i, Saudi Arabia is Sunni. Ayatollahs are Shi'i. Iraq is split, which is part of the reason for the sectarian fighting. The Shi'i majority wants to rule, and the Sunni are afraid that if they do, the Sunni will be persecuted.
Obviously, many more nuances than that, and I don't know as much about modern Islam as ancient. Just a summary, from memory, so any mistakes are my fault.
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