Kubernetes federation provides a centralized control plane to manage multiple clusters as a single entity, allowing for enhanced scalability, fault tolerance, and application performance. However, it also presents challenges such as increased risk of security breaches, lower maturity in available tools, and higher bandwidth and hosting costs. To set up a federated Kubernetes cluster, one can use tools like KubeFed or Rancher's Multi-Cluster Management (MCM), which provide agnostic solutions for managing multiple clusters under a unified control plane. Best practices for using Kubernetes federation include choosing the right federation tool, minimizing network latency, avoiding unnecessary cross-cluster resources, validating and testing multi-cluster setups, and considering alternative solutions like Cluster Registry and Cluster Inventory API.