Vidya was born in the Tamil-speaking Balan family on January 1, 1978 in Palghat, Kerala, India. Her family consists of her dad, P.R. Balan, mom and an elder sister, Priya. Vidya studied in St. Anthony's Convent School, Chembur and thereafter in St. Xavier's College from where she obtained a degree in Sociology. She then went on to obtain a Masters degree in Sociology from Bombay University. She also studied and performed in Prithvi Theaters' workshops. Due to tradition of most Tamil-Iyer families, Vidya and her sister Priya learned Carnatic dance form during their early childhood days, but Vidya opted out as the dance classes took place early on Sunday mornings and as she is not an early riser.
Considerably overweight, rather tomboyish, during her school-days, and an ardent fan of Shahrukh Khan, she decided to shed those extra pounds when she elected to opt for modeling and movies. Facing disappointment after being rejected by a Tamil producer, she nevertheless persisted until she got her first break with a Malyalam movie 'Chakram' opposite Mohanlal, however, the project was shelved, and she had to wait until 1998 to debut in a Surf Excel commercial. She then went on to appear in several commercials directed by Pradeep Sarkar. She completed nearly 90 such ads. She appeared in three music videos for Pankaj Udhas, Euphoria, and Shubha Mudgal in supporting roles. She then also appeared in two TV serials Ekta Kapoor's 'Hum Paanch', and Ashok Pandit's 'Hanste Khelte'.
During 2003 she was signed-up to play a role in a Bengali movie 'Bhaalo Theko' opposite Joy Sengupta which was a considerable hit. She later made her Hindi film debut with Parineeta (2005), which earned her a Filmfare Best Female Debut Award as well as her first Filmfare Award for Best Actress nomination. Vidya was approached by Vidhu Vinod Chopra during a pop-concert in Mumbai to play a lead role in 'Parineeta'. She had to undergo 17 make-up shoots and 40 screen tests before being chosen for this role. All this hard work did result in success as 'Parineeta'. She then essayed a variety of character roles, receiving her first commercial success with Rajkumar Hirani's Lage Raho Munna Bhai (2006). She followed it with Heyy Babyy (2008) and Bhool Bhulaiya (2008), the latter earning her another nomination for a Filmfare Award for Best Actress.
In 2009 she appeared in R. Balki's Paa, in a performance that ultimately won her a Filmfare Award for Best Actress. Her next release was Ishqiya opposite Naseerudin Shah and Arshad Warsi. She is involved with Chenab Gandhi, directed by Vibhu Puri and written by Bhavani Iyer, which centers around Khan Abdul Ghaffar Khan, also known as Frontier Gandhi. Director Nikhil Advani announced in late January 2009 that he is to work with Vidya. Chand Bhai will be the title of this film and Akshay Kumar will co-star. The film is based on juvenile delinquency. Balan was also seen in UTV Spotboy's No One Killed Jessica alongside Rani Mukerji. Later Vidya was seen in The Dirty Pictre where she won the National Film and Filmfare awards for Best Actress. She was critically praised for her performance in Kahaani. A pregnant woman in search of her husbnad, Vidya was at her best. Though the film won several awards, Vidya also bagged the Filmfare award for Best Actress for this film as well.
Apart from acting, Vidya occupies herself for supporting education for young Indians by promoting children's' books; is associated with Americans for Aids Research; with Hale House - that provides support and housing for children born with HIV and drug abuse; as well as hosting forums and attending events for Harvard Aids Institute. Single, never involved in any relationship or scandal, she claims to get along well with both female and male friends. An ardent devotee of Bhagwan Shri Sai Baba, she makes it a point to attend Mandirs every Thursday. She is proficient in Tamil, Malyalam, Hindi, English, Bengali, and can also read Urdu.