The installer will allow Upgrade version key during install if it sees any
OS on the system.
However I would be concerned about not wiping the HD of all code before installing Windows 7 over a bootleg Windows 7 installation. SSD / HDD : Optimize for Windows Reinstallation
The registry edit workaround to get it to accept Upgrade key after install to a clean HD is quite easy and fully legit: Clean Install with a Upgrade Windows 7 Version
It seems you went to a lot of trouble to try to construct the 100mb SysReserved partition for your reinstall. Did you mark it Active before running Startup Repair from the booted DVD Repair console/Repair CD 3 full times with reboots, with all other HD's unplugged? This will normally construct it.
If you installed over the bootleg without using Custom>Drive Options to delete, repartition and format before install it might not have replaced or even used the old 100mb SysReserved partition. Is it currently marked System Active in Disk mgmt? Do you have the Repair console on Advanced Boot Tools accessed by tapping F8 at bootup?
You can post back a screenshot of full Disk Mgmt drive map and listings if you want us to look it over.