Windows XP Mode dramatically changes the compatibility story for Windows 7 and, we believe, has serious implications for Windows development going forward. It is a host-based virtualization solution like Virtual PC.
XP Mode consists of the Virtual PC-based virtual environment and a fully licensed copy of Windows XP with Service Pack 3 (SP3). It will be made available, for free, to users of Windows 7 Professional, Enterprise, and Ultimate editions via a download from the Microsoft web site.
XPM does not require you to run the virtual environment as a separate Windows desktop. Instead, as you install applications inside the virtual XP environment, they are published to the host (Windows 7) OS as well. (With shortcuts placed in the Start Menu.) That way, users can run Windows XP-based applications (like IE 6) alongside Windows 7 applications under a single desktop.
I remember the days when I cursed MS for not being compatible with my beloved XP programs. This way it might just work from the start 🙂