Your typing and file transfers generate data, which are sent to the other computer, and which the other side must acknowledge receiving. If a certain amount of time goes by without the other computer acknowledging, a timeout signal goes off. This effectively senses when the computer on the other end of the connection is no longer responding.
When a timeout goes off, TOPS Terminal will ask if you want to hang up, or hope that the other computer will wake up and keep trying.
A timeout can happen because the other computer crashed, or because there was a hardware failure in the packet-switching network (like your Appletalk connector falling out), because someone licked their Ethernet cable, or for other reasons.
You can change the settings of the TCP/IP for a particular computer timeout to suit your experience with its response time. Pull down the Settings menu, give the Computers command, and open the computer description. Change the field marked "TCP/IP Timeout" and press OK.