Unlike in other Linux virtualization solutions such as User Mode Linux (or the forementioned VMware), special driver software on the host operating system is used to execute the coLinux kernel in a privileged mode (known as ring 0 or supervisor mode).
By constantly switching the machine's state between the host OS state and and the coLinux kernel state, coLinux is given full control of the physical machine's MMU (i.e, paging and protection) in its own specially allocated address space, and is able to act just like a native kernel, achieving almost the same performance and functionality that can be expected from a regular Linux which could have ran on the same machine standalone.
So my understanding is that it's a Windows driver which contains a full Linux kernel and does some (scary sounding!) time sharing with the Windows kernel running at the same CPL.