OK folks. After receiving some great help from my friends on the Outlook team, here is the cause of the problem.
PGP software. I have been using PGP for years and would have never suspected that it would not get along with Outlook. Someone from the Outlook team did some research and found a nice thread that actually mentioned that version 10 of PGP was not compatible with Outlook 2010.
Man I felt like a fool.
You can use PGP disk encryption without issues but messaging is a no go (well more like crippled but partly working). If you don't want issues with your Outlook, turn off PGP services from systray. After, disable from start menu. You will loose some functionality but not the disk encryption, except disk won't unmount with time delay. You must unmount yourself or it will do so on shutdown or reboot.
Threads mentioned that there might be a fix from PGP with version 10.1 soon to be released.
So there it is folks, another one bites the dust!!!
Thanks again to the Outlook team at MS.
TOP NOTCH GUYS!!!!