It does. But there are limitations to how compressed the files can be and still give you access to them. For example I have 14GB in iCloud Photos taking up 800MB on my iPhone and 400MB on my iPad, due to it only having 32GB of storage. You still have a finite amount of phone storage, and once filled up the only thing you can do is backup your photos from iCloud to a computer. You should be able to see the compressed amount of storage vs iCloud storage used by comparing the storage in iCloud settings and iPhone storage setting.