In epilogue, health and limb health are separate quantities. When health reaches 0 you die as per usual. Additionally, your arms and legs can be damaged during battle. There is a certain chance in combat to do limb damage in addition to health damage (and certain items have a higher chance). There are quite a few steps of limb damage, such as bruised or wounded, up to having the limb completely torn off. In an average combat situation you will merely get bruises or wounds and recover after the battle.
However, if you are ambushed by 5 enemies who are relentlessly beating on you, you are going to come away with gashed, torn, or crippled limbs. This helps reinforce the "run from large groups" strategy, but it is still possible to rest up afterwards. If your limbs are too severely damaged, or completely ripped off, you can no longer heal them naturally (obviously) and there are a variety of ways to get them back. I like this system because you can be at full health but still have the effects of a recent battle. It also makes large amounts of damage increase the danger more rapidly than simply the health concerns.
In terms of effects, arm damage reduces your chance to hit with attacks (or block if you have a shield) and leg damage reduces your chance to dodge, as well as making it very slow to move around. With low damage, these impacts or negligible, whereas a severed arm will give you no chance of hitting (you have no arm!).
Anyway that's my two cents. I think it works out nicely, and with every system there is a way to do it right as long as you are a good designer and balance it with respect to your game.
Personally, I really like the odd death where you get your legs torn off and eyes gouged out by a big group of monsters, while on an average playthru you might not even notice your limbs getting damaged if you play safely.