My first question is, will Core2Duo E6600 be faster than a Dual Xeon machine? What kind of % difference should i expect?
Yes it will. You can expect to see about 50% better performance over a 2.8GHz dual Xeon.
If we decide to go with Dual Xeon, should we get the latest Intel Xeon 51xx series or the "older" Xeon 50xx series? Do you have any other suggestions?
The Xeon 51xx are the same architecture as the Core 2 Duo, but possibly with a faster bus (depends on the model). They definitely deliver better performance, unless you are comparing the very slowest clocked 51xx with the highest clocked 50xx.